Posted: December 5th, 2014

International Business – Subject: International Finance

This assessment item relates to the course learning outcomes 1-3 as indicated in the e-Course
Profile.

Assessment Task
This assessment item is designed to enable you to analyse and apply international finance concepts to a given case study in a contemporary environment. You have the opportunity to undertake the assignment individually or in a group of no more than three students.
You need to answer all the questions in the following mini case of your prescribed textbook:

Chapter 1, page 37- Nine Dragons Paper and the 2009 Credit Crisis.

You can include, excel spreadsheets, diagrams, tables, graphs and references to support your analysis.

You can include any current issues or any information that has an impact on the mini-case. Overall, correct and proper referencing using Harvard style is essential.
The marking criteria assessment sheet is as follows:

Mini Case Total
Marks Marks
Awarded Brief comments
Nine Dragons Paper and the 2009 Credit Crisis
Questions – P 44
Executive Summary 05
Brief Introduction 05
Question 1 20
Question 2 20
Question 3 20
Conclusion 05
Referencing, diagrams, tables and spreadsheets
15
Total Marks 90

Grand Total 90 marks converted to a weighting of 30%

Assignment Submission
All assignments must be submitted online through Moodie and using MS-Word format. The marking criteria for assessment task 1 are attached below. Please ensure that before finalising
your assignment for marking check that you have addressed all these marking criteria carefully and systematically.

ASSESSMENT CRITERIA OF ASSESSMENT ITEM 1
Knowledge and Understanding (25%)
In depth, expert knowledge all inclusive of topic HD D c p F Insufficient knowledge
Highly accurate knowledge and fully comprehensive understanding HD D c p F Considerable and/or fatal inaccuracies in knowledge and understanding
Superior proficiency in application of relevant concepts HD D c p F Relevant concepts missing incorrectly applied or misunderstood
Research Skills (25%)
Highly proficient and scholarly use of a wide range of relevant sources of knowledge or data HD D c p F Very limited use and/or insufficient ranges of sources used
Superior skill demonstrated in use of correct referencing style (AGPS) HD D c p F Referencing is either insufficient or contains significant inaccuracies
Proficient in paraphrasing key comments and sparing use of direct quotations HD D c p F Quotations over-used and/or used when irrelevant
Communication Skills (25%)
Central argument expertly developed and supported by evidence HD D c p F No central argument developed and/or not supported by evidence
Topic covered thoroughly in depth and in scholarly manner HD D c p F Topic covered superficially Presentation awkward and convoluted
Clear, concise and fluent presentation HD D c p F Presentation not clear
Evaluation (25%)
Scholarly demonstration of critical analysis of theories and models HD D c p F Critical analysis poorly demonstrated if at all
Scholarly justification of decisions using a wide variety of sources HD D c p F Decisions not justified
Critical use of sources HD D c p F Uncritical use of (few) sources

Current Multinational Financial Challenges CHAPTER 1 37

Th,o c1reation of value requires combining three critical
c¢lements:•1) an open marketplace; 2) high-quality stra
management; and 3) access to capital.
theory of comparative advantage provides a basis or e>:pl1tining and justifying international trade in a world assumed to enjoy free trade, perfect com
‘1:: ;; ;n ouncertainty, costless information, and no
j interference.
financial management requires an
Sl !hclerst1mc!ing of cultural, historical, and institu
:;)NJrraJ differences, such as those affecting corporate

;;.tltilmlgh both domestic firms and MNEs are exposed
foreign exchange risks, MNEs alone face certain
< ‘””‘””‘e. risks, such as political risks, that are not nor
a threat to domestic operations.
;’ liNIEs strive to take advantage of imperfections in
Cnation:>l markets for products, factors of production,
financial assets.

:, ::_ .:- •-.._::-:•• :–>_::_ ,•_:_-‘:>– ;::_:’
;,::;J; ;tt! ; z;ii ;:: : .c :oirz;:ti t;:
stock, amf,attherequestofthe Hong Kong
nz,oylcet, the company had-tO_issue-a•nuinber qf
(tssrele•as'” denying ruiilprS_–of acquisitioor pther
!!i:•tfe'”””ts. It also denied rumors that its Chinese mills
1Jtarket Yeid.te:ddoWYzti- Fif:zaliy, -‘a, spdkes _
‘ “- ‘””‘”‘ comp_a- ny- had n>o “liqu-i-d- itypriJble: YY>.S.”

••.•-“five CompanlestoYatch,”G. Rodden, M.
Rushton, F.Willis, PPI,January 2009, p. 21.

time is really different. Large and small are all
In the pastthe•bi{waves WOuld only wash awqy lea_ve the- roth. NOw thewa•Ves afe–so big!
,,i>l•h ”or.oero<oks are being washed _away.”

. .-CheungYan, Chairwoman of Nine Dragons
Paper, -“W st:epapei’Queen: Letter• from China:,”
, New ,Yotker,30March2009;p;8.

Large international finns are better able to exploit such competitive factors as economies of scale, managerial and technological expertise, product differentiation, and financial strength than are their local competitors.
m A firm may first enter into international trade trans actions, then international contractual arrangements, such as sales offices and franchising, and ultimately the acquisition of foreign subsidiaries. At this final stage it truly becomes a multinational enterprise (MNE).
00 The decision whether or not to invest abroad is driven by strategic motives, and may require the MNE to enter into global licensing agree ents, joint ventures, cross border acquisitions, or greenfield investments.
ii1 If influential insiders in corporations and sovereign states pursue their own personal agendas which may increase their personal power, influence, or wealth, then capital will not flow into these sovereign states and cor porations. This will, in turn, create limitations to global ization in finance.

(Holclings) Li:rriited had-beGOnie ari power houseinthepaper industry..Thecqmpanyproduced aport folio of paperboard products used. in consumer product packaging, The company had expanded rapidly, its capital expenditure growingat an average annual rate of’120% tor the past five,ye’1fs. • . . .
But in January 2009, thecompanyllad beenforcedto issue a prqfitwarning(Exhibitl)..Sqti ezedpy market con’. ditionsand burdened•by debt, Nine Dragons Paper (NDP), the, largest paperbO_pt- m’_lnufa turer in• Asia_and _Seconq_ largest in the world, had,s.een itsshare price plummet. As the economic crisis of 1008 had bled into 2009, NDP’s sales had fallen. Rumors ha.d been buzzing since October
. that NDP was on the very edge ?f bankruptcy. Now, in
April2009, more than one analy$1 was asking “WilHhey
go bust?” , •

2011 ©.ThunJ;jerbird School Cif Global Management. All rights reserved. This case wasprepared by ProfessoJ,’ MiChael Mof
i g ;ri -•-Adelson,_ MBA ’08, for the purpose of classr<?Olll discussion _only, and not•to indicate either effective or _ineffective

38 CHAPTER i Current Multinational Financial Challenges

NPD’s Profit Warning (14 January 2009)

c62!E’ob NINE DRAGONS PAPER (HOLDINGS) LIMITED

(Incorporated in Bermuda wiih limited liability)
(Stock Code: 2689)

ANNOIJ ICEMEIIT

PliOfiT WARNIII!l

The Board wishes to inform the shareholders of the Company and potential investors that it is expected the Group will record a substantial reduction in its unaudited consolidated net profit arising from normal operations for the six months ended 31 December 2008 as compared to that for the corresponding period in 2007 due to the substantial decrease in the selling prices of the Group’s products and the rising cost of raw materials.

Shareholders of the Company and potential investors are advised to exercise caution in dealing in shares of the Company.

The Wastepaper Queen
Cheung Yan, or Mrs. Cheung as she preferred. was the visionary force behind NDP’s success. Her empire was built from trash-discarded cardboard cartons to be precise. The cartons were collected in the United States and Europe, shipped to China, then pulped and remanu factured into paperboard. NDP customers then used the paperboard to package goods for shipment back to the United States and Europe. returning them to their origins. Born in 1957, Mrs. Cheung came from a modest family background. She had started as an accountant for a Chi nese trading company in Hong Kong, and then started her own company after her employer went under. Her com pany was a scrap paper dealer, purchasing scrap paper in Hong Kong and mainland China and selling it to Chinese paper manufacturers. Paper in China was of generally poor quality, made from bamboo stalk, rice stalk, and grass. The locally collected wastepaper didn’t meet the needs of paper manufacturers as a raw input. In Europe and the United States, however, paper was made from wood pulp, which produced a higher quality paper (United States companies use a higher percentage of pulp, while Chinese companies use more recovered paper). Realizing that by capturing the wastepaper stream in the United States and Europe she could provide a higher quality product to her customers in China, Mrs. Cheung moved to the United States in 1990 to start another company, American Chung Nam Incor
porated (ACN).
One of the first companies to export wastepaper from te United States to China, ACN started by collecting

wastepaper from dumps, then expanded its network to include waste haulers and wastepaper collectors. Mrs. Cheung negotiated favorable contracts with shipping com panies whose ships were returning to China empty. ACN soon expanded abroad and became a leading exporter of recovered paper from Europe to China as well. By 2001, ACN had become the largest exporter, by volume, of freight from the United States. In other words, nobody in America was shipping more of anything each year any where in the world.
The Chinese economic miracle that began in the late
1990s rose through exports of consumer goods which needed a massive amount of packaging material. Within a few years, the demands for packaging far outgrew what domestic suppliers could provide. In 1995, Mrs. Cheung founded Nine Dragons Paper Industries Company in Dongguan, China. By 1998, the first papermaking machine was installed, a second in 2000, and a third in 2003. By
2008, NDP had 22 paperboard manufacturing machines at six locations in China and Vietnam. As illustrated by Exhibit 2. sales and profits soared.

NDP’s Products
Containerboard is used for exactly what it sounds like: con taining products in shipping between manufacturing and market. As illustrated in Exhibit 3, the containerboard value chain is a consurner driven market, with consumer purchases of products driving the demand for packaging and containers and insulation worldwide. Companies like NDP purchase recovered pulp paper from a variety of raw

NPD’s Growing Sales and Profitability

Sales (OOOs Rmb)

16,000,000

Return on Sales(%)

25%

14,000,000

12,000,000

Return on Sales = Net Income
Sales .

20%

10,000,000 /

‘15%

8,000,000

6,000,000

4,000,000

2,000,000

!
/
iO%

0
2003 2004 2005 2006

0%
2007 2008

Source: Nine Dragons Paper.

Chinese Containerboard Value Chain

Nine Dragons Paper

Raw Material Containerboard Box
Suppliers Manufacturers Manufacturers

0 ace (old corrugated o Containerboard co’s o Also able to pass along cardboard) or recovered typically pass along cost prices to customers as paper makes up 90% of changes due to highly container costs make up a volume fragmented box relatively small percentage
o Pulp paper about i 0% of manufacturers of total product cost of final volume o NDP & Lee & Man control customer
• Input prices have been very roughly 25% of the total o Manufacturing needs to volatile in recent years Chinese market occur near customers due to
high cost of transport of low
• NDP sources 60% of its o Sales mix has shifted to value goods
OCC from American Chung domestic market in recent
Nam (ACN) owned by Mrs. years (78% domestic in o Companies:
Cheung 2008, only 49% in 2005) • Hop Fung supplies
• Raw material costs make up • Companies: manufacturing sector in

• Highly cyclical with consumer spending
• Market in China has been shifting to a domestic orientation as Chinese incomes and consumption patterns grow

• Chinese economy, domestic economy, recovered rapidly from the 2008 recession suffered by most nations globally

60% of cost of goods sold

• Shandong Huatai Paper

Hong Kong and the Pearl
River Delta

• Large quantities of water Company Lid.
and electricity required in • Kith Holdings Limited manufacture

• D&B Database returns
3892 paperboard box

o Samson Paper Holdings manufacturers (NAICS
Limited 32221) in China
• Lee & Man Paper
Manufacturing Limited

40 CHAPTER i Current Multinational Financial Challenges

material suppliers (e.g., American Chung Nam, ACN, Mrs. Cheung’s own company), to manufacture container board. The containerboard is then sold to a variety of box manufacturers, most of which are located near the final customer, the consumer product companies.
NDP produced three different types of containerboard: linerboard (47% of2008 sales), corrugated medium (28% of sales), and corrugated duplex (23% of sales). Linerboard, light brown or white in color, is the flat exterior surface of boxes used to absorb external pressures during transport. Corrugated containerboard is the wavy fluted interior used to protect products in shipment. Corrugated medium, also light brown in color, has a high stack strength and is light weight, saving shippers significant shipping costs. Corru gated duplex is glossy on one side, high in printability, and is used in packaging of electronics, cosmetics, and a variety offood and beverages. These three products made up 98% of sales in 2008, with pulp and specialty paper making up the final 2% of sales.

Expansion

The market waits for no one. If I don’t develop today, if I wait for a year, or two or three years, to develop, I will have nothing for the market, and I will miss the opportunity.

-Cheung Yan, Chairwoman of Nine Dragons Paper, “Wastepaper Queen: Letter from China,” New Yorker, 30 March 2009, p. 2.
Since its founding in 1995, the company had cgntinuously expanded production capacity. By 2008, NDP had three • paperboard manufacturing plants in China: Dongguan, in Guangdong Province in the Pearl River Delta; Taicang, in Jiangsu Province in the Yangtze River Delta region; and Chongqing, in Sichuan Province in western China. All three were strategically located close to consumer goods manufacturers and shipping ports. NDP also had three other major investments in parallel with paperboard man ufacturing, buying a specialty board producer in Sichuan Province, a pulp manufacturer in Inner Mongolia, and a joint venture in a pulp manufacturer and paper mill in Binh Duong Province, Vietnam.
Even with NDP and competitor expansions, the demand for paperboard in China surpassed production. In
2005, Chines.e manufacturers produced nearly 28 million tonnes of containerboard, yet consumption equaled 30 mil lion tonnes. Domestic manufacturers had been narrowing the output gap, yet there was still an unmet need. Despite being the largest containerboard manufacturing country in the world, China remained a net importer. By 2008, NDP was the largest paperboard manufacturer in Asia.

Expansion came at a cost. A paper-making machine can cost anywhere from $100 to $200 million to purchase and set up, and then take up to two years before reaching optimal productivity. NDP operated its own electrical power plants, loading, and transportation services, had entered into sev eral joint ventures to supply wood pulp, and held long-term agreements for wastepaper supply. Though registered in Bermuda, corporate offices remained in Hong Kong.
Containerboard manufacturing is both energy intensive and water use intensive. To secure power supplies, NDP constructed coal-fired co-generation power plants to sup ply its plants in Dongguan, Taicang, and Chongqing. With these plants, the cost of generating power was approxi mately one-third less than electricity purchased from the regional power grid.
The company owned and operated its own transporta tion infrastructure, including piers and unloading facilities, railway spurs, and truck fleets.The company received ship ments of raw materials, including recovered paper, chemi cals, and coal, at its own piers in Taicang and Chongqing, and at the Xinsha Port in Dongguan. These facilities took advantage of ocean and inland waterway transportation, reducing port loading and unloading charges and allowing the company to avoid transportation bottlenecks.
From the beginning, the company invested in the most advanced equipment available, importing papermaking machines from the U.S. and Italy. Each plant was con structed with multiple production lines, allowing flexible configuration. This allowed NDP to respond to changing customer demands, offering a diversified product portfolio with options including product types, sizes, grades, burst indices, stacking strengths, basis weights, and printability. NDP had become an innovation leader in the industry, with equipment utilization rates consistently averaging
94%, far surpassing the industry average.
Although now publicly traded, the family still controlled the business. Mrs. Cheung and her husband held 72% of the company’s stock, with family members holding a number of the executive positions in the company: Mrs. Cheung was Chairman; her husband, Ming Chung Liu, was Chief Execu tive Officer; her brother Zhang Cheng Fei was a general man ager; and her son, Lau Chun Shun, was an executive director.

Financing Expansion

Why are we in debt? she asked. … I took a high level of risk because that is the preparation for the future, so that we will be first in the market when things change.

-Cheung Yan, Chairwoman of Nine Dragons Paper, “Wastepaper Queen: Lettei from China,” New Yorker, 30 March 2009, p. 2.

NDP’s Capex and Operating Cash Flow

Rmb (ODDs)
10,000,000

9,000,000

8,000,000

7,000,000

6,000,000

5,000,000

4,000,000

3,000,000

2,000,000

1,000,000

Capital
Expenditure

—!J

0 :.•••••….
6/30/2003 6/30/2004 6/30/2005

Although sometimes difficult, NDP had historically been able to fund its growing capital expenditures with a com bination of operating cash flow and debt. But as the rate of expansion grew even faster, and the company’s capital expenditures ballooned as illustrated in Exhibit 4, it became obvious that the company would need to restructure its financial base. Mrs. Cheung devised a second strategic plan.

!;-dia! !”.Jub:ic C’i'”ierie1G. The first step was an initial pub lic offering (!PO). In March 2006, NDP offered 25% of the company’s equity, one billion shares, at an offer price of HK$3.40 per share. The official offering was oversub scribed as a result of intense investor interest. The company then exercised an over-allotment option through its joint underwriters, Merrill Lynch and BNP Paribas Peregrine, issuing an additional 150 million shares in a private place ment to a select set of Hong Kong-based investors. The added shares raised an additional HK$490 million ($63.2 million) after fees, raising the total issuance to HK$3.9 bil lion ($504 million), representing 27.7% of the company’s ownership.
NDP’s shares (HK:2689) began trading on the Hong
Kong stock exchange in March 2006 and within six months were a constituent stock of the Hang Seng Composite Index. Following the highly successful !PO, Mrs. Cheung was now the richest woman in China.
::,i”‘ >9 U•oVc The proceeds from the !PO allowed NDP to retire a large portion of its accumulated debt. But the respite from debt concerns was short-lived. As

6/30/2006 6/30/2007 6/30/2008

Mrs. Cheung increased the rate of asset growth, the company’s debt again began to grow. NDP once again generated a negative free cash flow (operating cash flow less capex as illustrated in Exhibit 4). In April 2008, NDP issued $300 million in senior unsecured notes, notes which Fitch initially rated BBB-, the very edge of investment grade. Fitch cited a multitude of factors in its rating: the current economy, raw material price increases, supply risk, and the company’s aggressive capital expenditure program.
When global financial markets ground to a halt in
September and October 2008 and the economic crisis spread around the globe, consumers stopped buying, Chinese exports slowed, and sales of containerboard plummeted. NDP’s export orders declined 50%, sales revenue dropped, and the burden of debt grew notice ably heavier. Analysts became increasingly nervous. As price pressure from raw materials continued and NDP’s margins fell, final customers started fighting higher con tainerboard and box prices. On October 13, Fitch down graded NDP to BB+. NDP was now speculative grade, junk bond status.

NDP’s Chinese New Year 2009

We understand that all N DP’s banks have postponed for one year all earnings-based debt covenant ratios. We see this as a significant positive for shareholders as it should allow management enough time to restore confidence

42 CHAPTER 1 Current Multinational Financial Challenges

{‘ i;f lT[ “? NDP’s Share Price (ending April 30, 2009; weekly)

NDP Share Price (HK$) HK$28

HK$24

HK$20

HK$16

HK$12

HK$8

HK$4

and restructure its Rmbl4.7 bn in debt, of which half is due in two years.

-“Nine Dragons Paper,” Morgan Stanley, January
29,2009, p. 1.
Following new rumors of the company’s possible bank ruptcy, on December 29, 2008, NDP announced that it would delay Rmbl.S billion in capital expenditure planned for the 2009 fiscal year. The company reassured analysts and shareholders that by late 2010 or early2011 the paperboard markets would rebound. NDP also moved quickly to repur chase $16 million of its own notes and reported it would prepay $100 million of an existing $350 million syndicated loan and HK$720 million of a HK$2.3 billion credit line.
The debt restructuring had mixed results for NDP’s
outlook. The partial repayment on the two loan facilities convinced NDP’s bankers to allow the debt covenants on the loan facilities to be relaxed for one year. In turn, NDP’s costs under the loan facilities would reflect new higher spreads commensurate with its fallen credit rating. Its actions quelled the tempest somewhat, but not much, and not for long. NDP’s share price, after recovering a bit in December 2008, started falling once again in January
2009, as shown in Exhibit 5. Two days later on January
15, NDP issued a profit warning, revising sales and profit forecasts downward (see Exhibit 1). The ratings agencies responded with another downgrade, Fitch pushing NDP’s outstanding notes down to BB-. Rumors of the company’s potential bankruptcy were widespread.

NDP’s record high of
HK$26 in September 2007

Rumors of potential bankruptcy increase October 2008

By mid•February, many investment analysts were start ing to reverse their recommendations on NDP shares. A few argued that the company’s share price had over• reacted, and the company simply “had to be worth more” than what it was currently trading at. As more and more analysts endorsed the strategic and financial changes announced and implemented by management, the share price gradually rose. There were early signs that the Chi• nese economy was recovering from the recession quickly, margins were stabilizing, and that boded well for NDP’s earnings and cash flows.
In mid-March, however, the analysts were stunned once
again. In a briefing held by Mrs. Cheung, NDP announced it was re-instituting capex plans which had been shelved only three months before.

. . . we are concerned about the heavy reliance on bank borrowing in its current capital structure. Whilst the US$165 mn buyback of its senior notes and the relax ation of loan covenants in its syndicated term loans were positive catalysts for shareholders, in our view, we believe investors today are now asking what the company is doing to cut total debt, and at the meeting management failed to provide any new strategies.

-Morgan Stanley, March !8, 2009.
Estimates of earnings for the year would once again have to be revised downward (as seen in the March 18,
2009 revision in Exhibit 6). The higher capital expenditures

Current Multinational Financial Challenges CHAPTER 1 43

lfJitB The Evolutin ofE,;,;ing;;c;ash Fl w. and Debt Analysis of-Nlne o7a”Q;;;-Paper ••- –

Maintain Downgrade Upgrade Downgrade Debt Concern
Sept 17, Dec 16, Jan 29, Feb 19, Mar 1.8,

Rmb (millions)

.aifi-• — “<-, . .

2008 2008 2009 2009 2009
2007 2008 2009e 2009e 2009e 2009e 2009e
— –• I

Net sales

9,838 14,114

20,837

14,691 14,691 14,522 14,517

Cost of goods manufacturing (7,201) (11,341) (16;849) (12,886) (12,779) (12,482) (12,468) I,
EBITDA 2,637 2,773 3,988 1,805 1,912 2,040 2,049
Percent of safes 26.8% 19.6% 19.1% 12:3% 13.0% 14.0% 14.1% Depreciation & amoritization (370) (507) (914) (800) (807) (848) (829) EBIT 2,267 2,266 3,074 1,005 1,105 1,192 1,220
Percent of safes 23.0% 16.1% 14.8% 6.8% 7.5% 8.2% 8.4%
Interest (105) (102) (795) (887) (887) (556) ‘(480) Pre tax Profit (EB11 2,162 2,164 2,279 118 218 636 740
Percent of sales 22.0% 15.3% 10.9% 0.8% 1.5% 4.4% 5.1%
1 i –

,;-s••”.”– :z–,- :
EBITDA

– , , ,, 0 ..

2,637

2,773″

3,988 1,805 1,912 2,040 2,049

,r’

Less taxes paid (93) (263) (296) (15) (28) (44) (22)
Less net financial (272) (102) (814) (918) (918) (588) (1,057) lii
Less working capital (1,517) (1,012) (1,202) (691) 1,500 602 599

Operating Cash Flow 755 1,396 1,676 181 2,466 2,010 1,569

!ilii

Capex (5,345) (9,601) (2,950) (1,.SOD) (1,700) (2,800) (4,450)
j._
Acquisitions (208) (208) (208) (208)
Disposals & other 28 20 31 31 31 31 :1’I

Investing-Cash Flow (5,525) (9,809) (3,138) (1,677) (1,669) (2,769) (4,419)

lii
_{II

Equity raised 2,011 II
Debt raised 1,795 8,594 2,950 1,350 (1,000) (500) 2,000 Ji:
Dividends (199) (495) (495) (224) (224) (224) (224) w
Other 119 171 (452) (12) (17) (17)

!§.JlE;1, _

•1;”iirf&/i’i’:!:L’.'”!-JI.),-!!•1. 1• .:-‘,i -. — I

Financing Cash Flow 3,726 8,270 2,455 674 (1,236) (741) 1,759 .
Net Changes in Cash (1,044) (143) 993 (822) (439) (1,500) (1,091)
,,
.

Operating Cash Flow 755 1;396 1,676 181 2,466 . 2,010 1,569 ‘
Less capex (5;345) (9,601) (2,950) (1,500) (1,7001 (2,800) (4,450) . I.
Free Cash Flow (FCF) (4,590) (8,205) (1,274) (1,319) 766 (790) (2,881) 1’1

-‘fill

..
= . – “””‘,• – .- -. “”” – .. – – . ‘!’ _, ‘.;

r!H

Payables 1,767 3,839 2,941 2,280 4,316 4,232 4,221
Borrowings 6,632 14,685 14,865 16,265 13,915 13,575 16,369

111
I

Other-liabilities 328 544 39 91 532 527 527
Total Liabilities 8,727 19;068 17,845 18,636 18,763 18,334 21,117
I Shareholders equity 11,5i3 13,272 14,426 13,090 13,17 14,419 13,706 ! Minority interest 123 274 243 334 334 334 334 I
Total Liabilities and Equity 20,363 32,614 32,514 32,060 32,275 33,087 35,157 •m1.’
Net Debt 5,007 13,396 13,458 15,858 13,124 13,845 16,231
Net Debt I Equity 43.5% 1.00.9% 93.3% 121.1% 99.6% 96.0% 118.4% ;.lrl
Jnterest Cover (EBITDA x) 9.7 27.2 4.9 2.0 2.1 3.5 1.9

Gearing (Debt/Equity) 58% iii% i03% 124% 106% 94% 119%
Debt I EBITDA {5x or less) 2.5i 5.30 3.73 9.01 7.28 6.65 7.99
EBIT /Interest {4x or more) 21.59 22.22 3.87 1.13 1.25 2.14 2.54

.•.•:!II
1-!{
“R

Source: Compiled by authors from “Nine Dragons Paper,” Morgan Stanley, September 17, 2008, December 16, 2008, January 29,2009, February !h

10,2009, February 19,2009, and March 18, 2009.

ill!
-‘JI
•fl

44 CHAPTER 1 Current Multinational Financial Challenges

would now result in both higher depreciation charges and higher interest expenses for their funding.

Cash Flow Concerns

Nine Dragon’s earnings are very sensitive to prices of both recycled paper and containerboard. Fluctuations in these prices could lead to material changes in earn ings. With current net debt to equity close to 100%, the company relies on bank borrowings to finance part of its working capital and capex. Should the banks unex pectedly withdraw their facilities, the company may encounter liquidity problems. In addition, the company’s earnings growth is based on expansion plans. If the com pany is unable to obtain sufficient funding, the expansion may fall short of the company’s target.

-Morgan Stanley, January 29,2009, p. 6. The focus of analyst concerns over NDP’s prospects was
the impact of declining sales and margin on its ability to service its large debt burden. Morgan Stanley’s frequent revision and reevaluation of NDP’s key cash flow drivers and drains over the first quarter of 2009 is illustrated in Exhibit 5. Key issues included the following:

K’i Earnings.NDP’s primary source of ongoing cash flow was earnings, and as measured by EBITDA (Earnings before interest, taxes, depreciation and amortization), margins and earnings would be negatively impacted by the current paperboard market decline and higher input costs.
e”‘ Interest Expenses. Debt costs in the form of interest expenses were clearly rising rapidly as a result of con tinued high-debt levels and the higher interest rates which followed from credit downgrades.
i.J Capex. NDP’s massive asset expansion had brought about both its market dominance and its never-ending need for debt. Initially, management had announced postponement of capital expenditure plans in an attempt to cahn bankruptcy fears.

QUESTIONS

1. Globalization and the MNE. The term globalization has become widely used in recent years. How would you define it?

2. Assets, Institutions, and Linkages. Which assets play the most critical role in linking the major institutions that make up the global financial marketplace?

‘” Debt. The debt-carrying capacity of NDP was the primary source of debate in the current recession ary environment. The company’s debt/equity ratio, its gearing, was extremely high and potentially lethal in a recessionary environment amid• a global finan cial crisis, with credit so tight that many banks had stopped answering the phone. Analysts agreed across the board that NDP needed to reduce debt-now.

The March announcement of higher capex, now revised upward to Rmb 4.45 bn, would result in both higher depre ciation charges and higher interest expenses. It would again commit the company to a large negative free cash flow for the 2009 year, and would probably result in NDP carrying higher debt levels well into 2010 and 2011 while the world economic environment was predicted to remain fragile. As the global economic crisis continued in 2009, many of NDP’s customers had simply disappeared. More than 670,000 Chinese businesses had failed in 2008, and early 2009 had been just as bad. Could NDP be next?
Our future path of development may remain thorny ahead, but armed with the shared confidence and cour age throughout the Group to overcome and conquer, we are poised to act even more diligently and powerfully to prepare for the next global economic recovery …

-“Chairlady’s Statement,” 2008/09 Interim
Report, Nine Dragons Paper (Holdings) Limited.

Case Questions

1. How does Mrs. Cheung think? What does she believe in when it com,es to building her business?
2. How would you summarize the company’s financial status? How does it reflect the business development goals and strategies employed by Mrs. Cheung?
3. Is NDP in trouble? How would your answer differ if you were an existing shareholder, a potential investor, or an analyst?

3, Eurocurrencies and LIIIOIL Why have eurocurrencies and LIBOR remained the centerpiece of the global finimcial marketplace for so long?

4. Theory of Comparative Advantage. Define and explain the theory of comparative advantage.

5. Limitations of Comparative Advantage. Key to understanding most theories is what they say and what

Please read the chapter 1 to chapter 12.

Prescribed Textbooks
Multinational Business Finance
Author/s: Eiteman, DK, Stonehill, AI & Moffett, MH Year: 2013
Edition: 13th edn Publisher: Pearson
City: Sydney State: NSW
Country: Australia

some information to se please:
Earnings, Cash Flow, and Debt Analysis of Nine Dragons Paper: 2009 Actual

Rmb (millions)
2007

2008 May II, 2009
2009e
Actual
2009
Discussion

Net sales

9,838

14,114

14,517

13,129

Sates were even lower than expected, but ..•
Cost of goods manufacturing (7,201) (11,341) (12,332) (10,624) .•.costs were significantly lower than predicted KEY.
EBITDA 2,637 2,773 2,185 2,505 EBITDA was therefore about20% better than expected.
Percent of sales 26.8% 19.6% 15.1% 19.1%
Depreciation & amoritization (370) (507) (648) (760)
EBIT 2,267 2,266 1,537 1,745
Percent of sales 23.0% 16.1% 10.6% 13.3%
Interest (105) (102) 233 92 Net interest income rather than expense from repurchase.
Pre-tax Profit (EBT) 2,162 2,164 1,770 1,837 Profit slightly better than analyst expectations.
Percent of sales 22.0% 15.3% 12.2% 14.0%

EBITDA

2,637
2,773

2,185

2,505
Less taxes paid (93) (263) (345) (175) Tax strategy benefits appear large and real.
Less net financial (272) (102) (1,057) (886)
Less working capital (l ,517) (1,012) 585 2,477
Operating Cash Flow 755 1,396 1,368 3,921 OCF three times what analysts expected

Capex
(5,345)
(9,601)
(4,450)
(3,739)
Did not execute all that leadership bad indicated
Acquisitions (208) (208)
Disposals & other 28 31
lm1esting Cash Flow (5,525) (9,809) (4,419) (3,739) Final investing cash flow smaller than expected
I
Equity raised 2,0ll
Debt raised 1,795 8,594 2,000 Did not raise more debt as expected
Dhidends (199) (495) (224) (224) Other 119 171 f17) f12)
Financing Cash Flow 3,726 8,270 1,759 (236) Net paydown, slightly, of debt, rather than an increase.

Net Changes in Cash (1,044) (143) (1,292) (54) Negligible in the end

Operating Cash Flow
Less capex
Free Cash Flow(FCF)

755 (5,345) (4,590)

1,396 (9,601) (8,205)

1,368 (4,450) (3,682)

3,921
(3,739)
182 FCF ended positive; strong result ail things considered.

NDP’s sales and profit growth had
been exceedingly good • until now

Profitability

Sllleis (OOOs R!ilb)

l6,ll00,000

Relllm.onSale’s (%)

25%

14,000,000

12,000,000

10,000,()00

8,000,000

6,000,000

4,000,QQO

2,000,000

Source: Nine CratiOI’lS Paper,

RetU!n on Sales = Net Income
Sales

variety of sources and countries, but sold its containerboard within China

Nine Oragll!IS Paper •

CCC(old corrugated cardboard) onecovered paper makes up 90%ol volume
• Pulp paperabout10″4of volume

• Inputprices have been very volatile in recent years

• NOP sources 60% ol.i!s CCC lrom American Cllung Nam (ACN) .owned byMrs. Cheung
• Raw material costs makeup
60% of cost ofgoods sold
• Large quanijties olwatar nilel clricity required in
i menulaclure

• CooiaineiOOard co’s tjlpically pass along cost
changes due to 11igllly fragmented oox
menulaclurers

• NOP &lee & Man cootrol roughly 25% of me total Chinese market

• Sates111ix has shilled to domestic ma!l<et inrecent years [78% domestic in
2008, only 49% in 2005)

• Compallles:

• Shillldong HmtaiPaper
COmpanyltd.

. • Kitll Ho!dings.Umited

• Samson Paper Holdings
umnoo
• Lee & ManPaper. ManofacturiflJ.Limited

• Also able.to pass aloflJ ptices tocustomers as coolainer.costs makeup a relal ly•smallpmentage of total product oost of cus.tomer
• Manu!acwling naeds jx) oocur near customers due to high cost of)ranspbrt of low value goods

••Companies:

• Hop Fung supplies manu!ae!ur!ng sector in Hong Klingand thePearl River tlilita
• D&ElDatabase rerums
3892 paperbOard ll<Jx manulae!llrers. (NAIGS
3222i) in China

•• Higllly cyc!ipalwifu
consumer spendiflJ
• iVI rketin.Chirja has been shifting to a dof!lilstic orientafioo.as•Cillnese inooines <ind.ootiSulnption pal!ems. )JIOW

• Chinese eeonomy, domestic economy,recoveredrapidly• Item the 2008 recession srnreredby most naliohs globally

Mrs.. Cheung’s appetite for growth ….. capital expenditures ….. was far beyond the company’s operating cash flow capabilities to self-fund

and Flow

mli.(OIIIJ$)
10,000,000

9,000,000

8,000,000 ……….. .

5,000,000

4,000,000…..

3,ooo,ooo••••

2.,000,000 ….

6/$0/2003 6/3012004 6/30/2005

.. -• ..—-••

NDP’s share price had been sliding continually since September 2007. The recent profit warnings and growing concerns over rising debt had pushed it further down.

NDP’s Sh;:tre Price

.NDP Sllare Pr(HK$)
HK$28

HK$24 •

NOP’s record high of
HK$26 in September 2007

HK$20 ••

HK$1.6

HK$12.•••••••••••• f••••••••••••••••••••••••• Rumors of
potential
bankruptcy

•—- — • • =- –

Net Changesln Ca h

(93) (212) (1,517)
755

(5,345)
{20$)
.28

(1,044)

Prct9Ql’lS Papr •

993 {822) (1,091)

_..,…

_,.
…..
.A..’ .

_…
…..

Exhibit 6 The Evolution of Earnings, Cash Flow,
and Debt Analysis of Nine Dragons Paper (cont.)

…,.

Net.Oebt 5,007 13,39l’) 13,458 15,858 13,124 1.3,845 16,231
Nt>t Debt/ Equity 100.9.% 93.3% 99.6% 96.0% 118;4%
lnlt>restcover {EBITOAxJ 9.7 27.2 4.9 2J) 2.1 .;3,.5 1.9

Geeting (Debt/Equity) . 58% ‘1″11% 103% 124% 100 £ .

94% 1!9%

Debt I EBITDA {5x or leSj;) 2.51 5.30 3.73 .9.01 7.2$ 6.85 7.99
EB!T linter(4x Ql’ 1’11()tel 21.59 22.22 3c87 1.13 . 1.25 2.14 •. 2.54

$oilree:Cornpill,)d i::>Y <ll.llhol$’ fl’Orn ”Nine Dra(l<)ns pap¢Mr:
10, 20()9, Febl’!.lat)l 19., 2009,.l!lndMarch.18, 2009.

an $tanley, s<lpternr 17,2003,Decemoer 18; 2oos,January 29;: 009, Febru< tJI

The European Union has taken the hardest line on credit regulation since the global financial crisis. It has created the European Securities and Markets Authority to improve oversight of financial services and investment funds.During this process it clearly set itssights on rating agencies,saying that there was little doubt that they were culpable.
“They are seen to have contributed to the financial
crisis by underestimating the risk that the issuers of certain more complicated financial instruments may not repay their debts,”an EU report said. ‘lAs they gave the highest possible ratings to many of those complex instruments, inexperienced investors felt encouraged to purchase them without properly assessing the risks. The financial crisis exposed many of these shortcomings in rating practices.”
The ESMA now oversees all European rating agencies and demands that they submit information to national authorities showing that their ratings are calculated with a”rigorous, systematic and continuous” methodology. Michel Barnier, the EU’s commissioner responsible for internal market and services, has been particularly determined to bring the agencies to heel, demanding they disclose the internal analyses they use to decide ratings.

The major plank of post-crisis legislation in the U.S. was the Dodd Frank Act. Introduced in 2010, it recognizes the importance of rating agencies, declaring their findings “matters of national public interest.” Rating agencies are now subject to oversight by the newly created Office of Credit Ratings.
The central mandate for the OCR is to ensure the
accuracy of ratings and oversee potential conflicts of interest. It can impose penalties on the organizations it regulates and is required to examine rating agencies at least once a year and publish key findings. The new body is also expected to develop rules intended to: require rating agencies to set up internal controls over the process for determining credit ratings; establish an independent board of directors; make greater disclosures to the public and investors; and develop universal ratings across asset classes and types of issuer. Lastly, the OCR will have authority to deregister an agency for providing bad ratings overtime.
However, the act has yet to be tested in the crucible
of U.S.business regulation: the courthouse.

Additional Question

On March 1 1997, Charleston Marine sold a ship of outboard motors to Tokomori Boat Builders for ¥60,000,000, payable as
¥30,000,000 on June 1 and ¥30,000,000 on September 1.
Charleston Marine quoted a sales price of ¥60,000,000 payable in yen after determining the US$ price of US$500,000, and multiplying by the spot price on the day of the quote, which was
¥120/US$. By the time the order was booked in March, the yen had deteriorated to ¥118/US$. That means the sale was then worth
¥60,000,000 + 118 = US$508,475. Charleston was concerned about falls in the value of the yen. He collected the following information.

3-mth forward quote 122
6-mth forward quote 124
Japanese Interest Rate 3.0% US$ Interest Rate
June Put Options 122 Charleston Outboards Cost of Equity
June Put Premium 2.00% US T-bill rate
June Call Options 122
June Call Premium 3.00% Sept Put Option 122
Sept Put Premium 2.00% Sept Call Option 135
Sept Call Premium 2.60%

7.2%
24.00%

3.6%

As a small company Charleston could not sell long-term debt. Working through the alternative approaches, indicate the most appropriate action Charleston should take. Summarise all
alternatives indicating the benefits of each. ‘

Solution
Charleston’s goal should be to maximise the expected dollar future value of yen to be received from the sale to Tokomori (a present value calculation is equally valid). Four possibilities are forward
hedge, MMH, options hedge, or do nothing.

Discount rate possibilities:
T-hill rate= 3.6% pa
US Bank rate= 7.2% pa
Cost of Equity= 24% pa

3-mth factor
1.009
1.018
1.060

6-mth factor
1.018
1.036
1.120

If Charleston were cash rich and had no internal expansion opportunities in the near term, use of the T-bill or bank borrowing rate might be appropriate. The logic is that the best internal alternative use of Charleston’s excess cash would be to buy T-bills or repay existing (if any) bank debt. Assuming Charleston is not cash rich, 24% is the appropriate value of funds to the firm.

The basic exposure problem can be illustrated in a time line:

¥120/ ¥118/
US$ US$
Feb Mar Apr May Jun Jul Aug Sep

Sale +¥30m +¥30m

1. Forward Market Hedge. Charleston could sell the June and
September yen proceeds for dollars at the forward rates:

June I> JPY30,000,000 = US$245 902
JPY1221US$ ‘

Se tember 1> JPY 3 0,000,000 = US$241935
p JPY124/US$ ‘

To evaluate all alternatives and all cash flows at the same point in time, the June payment is carried forward 3 months @ 24% pa, giving a total forward cover future value of:

{US$245,902 X [ 1 + (0.24X :6°0)]}+ US$241,935 = US$502,591

2. Money Market Hedge. Charleston could borrow yen from a Japanese bank@ 3% pa, and exchange those yen for dollars at today’s spot rate of ¥118/US$. The dollar proceeds would then be carried forward six months to the same point in time as all the other alternative for comparison.

The June payment of ¥30,000,000 discounted back 90 days to obtain today’s yen proceeds of the loan, and then converted to dollars at the current spot rate would be:

JPY30,000,000 X 1 = US$252 344.70 [1+(0.03x:2o)] JPY118/US$ ,

The September payment of ¥30,000,000 similarly discounted back, this time for 180 days, and then converted to dollars at the current spot rate:

JPY30,000,000 X 1 = US$250 480.09 [1 + (0.03 x )J JPY118/ US$ ,

This is a total current (March) dollar value of:

US$252,344.70 + US$250,480.09 = US$502,824.79

Carried forward six months at the cost of equity results in a money market total of:

US$502,824.79x [1+ (0.24x ! )J = US$563,163.76

3. Options Hedge. Charleston could buy a yen put option for June with a strike price of ¥122 for a premium of 2%. The premium cost in dollars payable on March 1:

JPY30,000,000 X 0.02 = US$5 084.75
JPY118/US$ ‘

This premium must be carried forward 6 months at 24%: US$5,084.75 X 1.12 = US$5,694.92
A yen put option for September with a strike of ¥122 also has a premium of 2%, also payable March. The September put option would cost the same as the June put option, and is carried forward
6 months @ 24%:

JPY30,000,000 X 0.02 = US$5 084.75
JPY118/US$ ‘
and
US$5,084.75 X 1.12 = US$5,694.92
If exercised, the put option hedge provides a floor or “worst case” scenario. Both put options have the same strike price of¥122/US$, the proceeds of actually having to use the put options (individually)
would be:

JPY30,000,000 = US$245 90 1.64
JPY1221US$ ‘

The proceeds of the June put option would then need to be carried forward for 3 months at the cost of equity:

US$245,901.64 X 1.06 = US$260,655.74

The total put option hedge, with all premiums and intermediate exercised values carried forward to September are:

June put premium carried forward Sept put premium carried forward June put proceeds, exercised, carried forward 3 months
Sept put proceeds, exercised
Total net proceeds in six months

-US$5,694.92
-US$5,694.92
US$260,655.74

US$245,901.64
US$495,167.54

If in June and September the yen were stronger than ¥122/US$, Charleston would sell yen at that higher spot rate and allow the options to expire out-of-the-money (OTM). Although the “worst case” provides less dollar revenue than either the forward or the MMH, this alternative allows Charleston to gain from any possible strengthening of the yen.

4. Do Nothing

Charleston can decide to just wait. Charleston now bears the full risk of any drop in the value of the yen, but it will also gain in full from any strengthening of the yen. Although “expected” proceed might be deemed to be the same as those received under the forward market option, on the logic that the forward is an unbiased predictor of future spot rates. This outcome is not certain and therefore this alternative is riskier.

case” provides less dollar revenue than either the forward or the MMH, this alternative allows Charleston to gain from any possible strengthening of the yen.

(4 Do NothinJ

—–,

—- /

Summary of the Four Basic Hedge Alternatives

Forward Hedge Money Market Hedge Option Hedge (exercised) Do Nothing (with spot as forecast by forward rate)

US$502,591
US$563,164
US$495,168
US$502,591

certain certain worst case uncertain

Open period exposure: Between February 1st, when Charleston offered to sell at a fixed price, and March 1st, when the sale was consummated, Charleston incurred “quotation exposure”. Quotation exposure is the risk that the exchange rate changes between the time the offer (or bid) on a project is made and the acceptance is received.

In Charleston’s case, Charleston gained because during the open period the yen strengthened; however, Charleston could equally have lost. This exposure can not readily be hedged in the forward or money market because, in this instance, Charleston does not know if it will receive the order. If the order is not received,

Charleston will not have future yen cash flows (in June and September) to deliver against the forward sale or to repay the yen bank debt. Therefore if the order is not received, a forward or money market hedge creates an exposure exactly opposite to the risk of the order if received.

From a financial instruments perspective, the best hedge during this open period is likely to be an options hedge: Charleston could buy a put option on February 1st that matures on the last day that the fixed price offer remains valid, say March 1st. If the order is received and the yen weakened, the loss during this open period is offset by profit on the option. If the order is not received, Charleston can either resell the option, if it is in the money, or discard it if it expires out of the money.

Quotation exposure can be treated by other techniques. In all instances, open bids or offers should have a specific time limit. Additionally, a fixed price bid or offer in a foreign currency may have an escalator clause for changes in the spot rate. In the above example, Charleston’s offer price of ¥60,000,000 was based on an exchange rate of ¥120/US$. The offer could carry a provision that if the yen went below, say, ¥124/US$ the yen price would be adjusted upward or the offer no longer stood. Another alternative would be for Charleston to purchase a 7-month put option and sell it after they find out whether they have won the bid (or if they don’t get it). This way they are covered for the 6 month period they are bidding for.

Note that the premium of 2% on the put option at a strike price of
¥122/US$ is the same for both June and September maturities. Although normally an option’s premium will increase with maturity, it is not unusual to see relatively constant premiums over time, particularly if volatilities are currently lower on the longer maturities.

• Types ofMarkets
• direct search vs. broker vs. dealer vs. auction

• Our focus – Derivatives on
• FX

• Interest Rates
>> Money Market
» Fixed-income capital markets (bonds)
• Equities (single-stock vs. stock-indexji11ures)
• Commodities (energy, “ags”,metals) vs. Weather

• Trading in financial assets is huge
stock market vs. derivatives market
– daily global FX turnover”” $5.3 trn (2013 triennal BIS survey)
>> 4tm (/0), 3.2/m (07),1.9/rn (’04), /.2ltrn (OJ) & $1.49trn (’98)
– 21.6bn futures & option contracts traded annually on exchanges (2013)
– notional on all OTC derivatives highest ever ($710 tm in H2-’13; BIS)
) After Lehman, fell to $582 tm in IH-10 from $673tm in Hl-08
)> Back to $71Otrn as of Dec.l3; IR swaps >$494 trn (BIS, H2-‘l3)

• 94% of large corporations use derivatives (ISDA April’ 09)

• Importance of theory
Computerization- experience vs. new situations (reference points)
• know the theory to know its limits

Time is
Money

Options have value, always

Self Interest Transaction?
2 parties

Market
Efficiency

Risk Aversion Diversification Marginal
Analysis

• Definition
• A derivative security or derivative
• is a financial instmment
• whose value depends on
• the values of other more basic underlying variables

• In this course
• Forward & Futures
• Swaps
• Options

• Definition: Forward
• contract calling for delivery of a given asset
• at a given future date, at a price agreed-upon today
• no money changes hands today (caveat)

• Market microstructure
• OTC market

• Approximate definitions- Futures & Swaps:
• Futures= Exchange-traded Forward
• Swap = Bundle of fmwards or of fuh1res

• A call is an option to BUY
a cetiain asset
at/by a certain date for a certain price that is fixed today

• A put is an option to SELL
a certain asset
at/by a cetiain date for a certain price that is fixed today

Customized Standardized

right OTC option exchange
traded option

obligation forward futures

• Number of parties
• 2 (buyer & seller)+ intermediaries (sometimes)

• The party that has agreed to:
-BUY
• has what is termed a LONG position
» the long position gains
when the price of the underlying increases
-SELL
• has what is termed a SHORT position
» short gains when the price of the underlying falls

Terminology 2

• Types of Traders

• Speculators
» are willing to take risk based on their forecasts
» try to exploit price movements

– “Investors”?
» use derivatives to gain LT (as opposed to ST) exposure

• Hedgers
» want to reduce risk of existing assets or liabilities

• Arbitrageurs
» use risk-free trading strategies
» to exploit asset mis-pticings

• To invest or speculate

• To hedge risks

• To infer views
• about the future direction of the market or about risk

• To lock in arbitrage profits

• To change the nature
• of a liability
• of an investment

• Forward contracts
• basic idea & market participants

• links between spot and futures prices
>> forward as predictor of future spot prices
» spot-futures parity theorem

• Futures contracts

• market microstructure
» participants, major contracts, exchanges

• differences with forwards (purpose, contracts & prices)

• Definition
• contract calling for delivery of a given asset
• at a given future date, at a price agreed-upon today
• no money changes hands today (caveat}

• Market participants (Who and Why?)
• hedgers-traders-arbitrageurs
• speculators
• Market microstructure (Where and How?)
• OTC market

Forward Fundamentals 2

• Market participants

• traders-arbitrageurs

• hedgers

» try to avoid impact of price movements
» short hedgers: have long position, go short
>> long hedgers: have short position, go long

• speculators

» try to profit from price movements

Forward Fundamentals 3

• Taxation
• hedging vs. speculation
» ordinaty income vs. capital income

• Risks borne by parties
• volatility of underlying asset price
• default
» why?
• Solution
• cun-encies: fmwards
• most other assets: futures

• Fundamentals
participants, major contracts, exchanges

• Differences w/ forward contracts (main ones)
trade in the risk (contract), not in the asset (commodity)
– standardized and exchange-traded (not OTC)
marking-to-market I risk control

• Differences b/ forward & futures prices
– in theory
– in practice I arbih•age

Options Contracts: Preliminaries

• An option gives the holder the right, but not the obligation, to buy or sell a given quantity of an asset in the future, at prices agreed upon today.
• Calls vs. Puts
• Call options gives the holder the right, but not the obligation, to buy a given quantity of some asset at some time in the future, at prices agreed upon today.
” Put options gives the holder the right, but not the obligation, to sell a given quantity of some asset at
some time in the future, at prices agreed upon today.
7•22

Options Contracts: Preliminaries
• In-the-money
“‘ Ca!l: The exercise or buying price (E) is less than the spot price (S)
of the underlying asset.
<:> Put: The exercise or selling price (E) is more than the spot price (S)
of the underlying asset.

‘” At-the-money
B Call & Put: The exercise price (E) is equal to the spot price (S) ofthe
underlying asset.
‘” Out-of-the-money
B Call: The exercise or buyi11g price (E) is more than the spot price (S)
ofthe underlying asset.
0 Put: The exercise or selling price (E) is less tha11 the spot price (S) of
the underlying asset
7•23

Currency Call Option

” The buyer of a currency call option is granted the right but not the obligation to buy a specific currency at a specific price (exercise or strike price) within a specific period oftime (expiration date).
e The seller of the call must deliver the currency at the exercise price exercised against.
” The call option buyer pays a specific price for each call
(call premium), which the seller of the call receives.

Basic Call Option Pricing
Relationships at Expiry

• If the call is in-the-money, it is worth S- E.
e If the call is out-of-the-money, it is worthless.
C = Max[S- E, 0]

7-2-5

Profit /loss for Buyers I Sellers of
Calls

Call Buyer Call Seller
When: In I Out Exercise? Profit I Loss Profit I Loss
S>E In Yes [(S- E)- C] * N – [{S- E)- C] * N
S<E Out No [- C] * N [C] * N
S = Currency spot price, on expiration date
E = Exercise price for call or put
C = Call premium/ unit
P =Put premium I unit
N =Number of units I contract
If the spot price of the currency (S) is:
more then the call exercise price (E), then the options is itt the money less then the call exercise price (E), then the options is out of the money equal to the call exercise price (E), then the options is at the money

Basic Option Profit Profiles

Profi 0w111-er of tne ctlll

If the call is in-the-
money, it is worth

/
/ Long I call

S E.

lfthe call is out-o!C
the-money, it is
worthless and the s
buyer of the call -c
loses his entire investment of c.

7-27

Basic Option Profit Profiles

Profit seller of the ct’lll

lfthe call is in-the- money, the writer losesS E.

Ifthe call is out-of the-money, the writer keeps the option prcmitun.

loss

7-28

Example

Profit
• Consider a call
option on £31,250. /
• The option premium / Long I call
is $0.25 per£ // on I pound
$1.50 per£. ::::::::::;v”‘”‘ “‘::——s
$0.25 ‘ ‘
‘:$1.75
$1.50

loss

7-29

Currency Put Option

” The buyer of a currency put option is granted the right but not the obligation to sell a specific currency at a specific price (exercise or strike price) within a specific period of time (expiration date).
” The seller of the put must purchase the currency at the exercise price.
” The put buyer pays a specific price (put premium) for each put, which the seller of the put receives

Basic Put Option Pricing
Relationships at Expiry

” If the put is in-the-money, it is worth E- S.
” If the put is out-of-the-money, it is worthless.
P=Max[E-S,O]

].JJ

Profit /loss for Buyers I Sellers of
Puts
Put Buyer Put Seller
When: In I Out Exercise? Profit I Loss Profit I Loss
S>E Out No [- P] * N [P] * N
S<E In Yes [(E- S)- P] * N – [(E- S)- P] * N
S = Currency spot price, on expiration date
E = Exercise price for call or put
C =Call premium!unit
P = Put premium ! unit
N =Number of units!contract
If the spot price of the currency (S) is:
more then the call exercise price (E), then the options is outoftlte money
tess then the call exercise price {E), then the options is in the money
equal to the call exercise price (E), then the options is at lite money

Basic Option Profit Profiles

If the put is in

Profit OWV -er of the put

the-money, it is E _ p worth ES. The maximum gain is
E p

If the put is out
of the money, it
is worthless and -P

—————– s

the buyer ofthe put loses his entire investment
ofp. loss
7•33

Ep :’ ‘
‘

long I put

Basic Option Profit Profiles

If the put is in the-money, it is worth E – Sf” The maximum loss is
-E + p

Profit seller of the -put

If the put is out- P /–‘:” – –
of-the-money, it : ,
is worthless and : :

the seller of the E- p :
i e 1 e um V/ E

short I put

0f p.
7-34

-E+p
loss

Example

Profit hat is the maximum gain on this put option?
$42,187.50, .f42,:U?y’.50 = £3i,250X(.fi.50-.f0.i5)/£
• Consider a put t what exchange rate do you break even?
option on £31,250. ‘
• The option premium “”
is $0.15 p: :,687.50 11.’-_-_–_- -_-” <::::<..,.: .)
$1.35 i Long I put
• The exercise price is $ 1 50 on 0 L250
$1.50 per pound. •
loss .f-t,b!?;’-.50 = £3:L,250X (.:j;O.:LS)/€

7•35

Options Contracts: Preliminaries

• Intrinsic Value
The difference between the exercise price of the option and the spot price of the underlying asset.
e Speculative Value
0 The difference between the option premium and the intrinsic value of the option.

Option
Premium

Intrinsic
=
Value

Speculative
Value

7-36

Currency Options Markets

• PHLX
• HKFE
• 20-hour trading day.
• OTC volume is much bigger than exchange volume.
• Trading is in six major currencies against the
U.S. dollar.

Euro
10,000 htro•tt:
l’l5
)1!6

nts per unit.
Mar
Mar

3.98
3.33

Jill
!.78
J ‘•’f.ftlt
IJ7 Mar 2.7 2.18
l’tS Mar )_2? 7.66
j/;5 Jun 4.88 2.57
1’•6 Jun 4.28 2.90
l’t7 Jun 3.73 3.33
l’t8
Jap<HH.”>C’ Yen Jun 3.23 3.133
9?.01,
1,000,000 J.Yen•lOOths of a tenlper unit.
91 Jan 1.16 .’tS
92 Jan 1.21 .Bt,
9.3 Jvn .77 1.46
91 Mar 3.00 l.lO
92 Ma1 2.1!5 1.59
9-5 Mar ::1.09 2.16
91 Jun 3.93 L30
92 Jun 3AB 1.73
9:1 Jun 3.09 2.26

Currency Call Option: An Example

” Suppose on l/30/20XX (See attached quote) :
o March call options on euros with a strike price $1.45 are selling for
$0.0398. This option allows you to buy E 10,000 by the third
Wednesday of March at a price of$1.45. The total price for one contract is: 10,000 * $0.0398 $398.
March call options on Euros with a strike price $1.48 are selling fOr
$0.0222. This option allows you to buy E 10,000 by the third
Wednesday of March at a price of$1.45. The total price for one contract is: I 0,000 * $0.0222 $222
., Given that the current price of euro is 1.4744, are these call options in or out of the money ?
., How can you loose or make money from this position?

Currency Put Option: An Example

e Suppose on l/30/20XX (See attached quote):
January put options on yens with a strike price $0.0091 are selling tOr
$0.000045. This option allows you to sell Y 1,000,000 by the third
Wednesday of January at a price of$0.000045. The total price for one contract is: 1,000,000 * $ 0.000045 $45.
“” March put options on yens with a strike price $0.0093 are selling for
$0.000216. This option allows you to buy Y 1,000,000 by the third
Wednesday of March at a price of$0.000216. The total price for one contract is: 1,000,000 * $0.000216 $216.
” Given that the current price of yen is $0.009204, are these put options in or out of the money ?
” How can you loose or make money fi•om this position?

American & European Options

0 European options can only be exercised on the expiration date.
0 American options can be exercised at any time up to and including the expiration date.
0 Since this option to exercise early generally has value, American options are usually worth more than European options, other things equal.

7-43

American & European Option Pricing
Relationships

e With an American call (C ) or put (Pa) option, you can do everything that you can do with a European call (Ce) or put (Pe) option AND you can exercise prior to expiry-this option to exercise early has value, thus:

7-41

SPECULATION: Spot, Futures, Forward and Option strategies
If a speculator believes that a foreign currency will increase in price:
” Spot Market: Borrow home currency, buy FX now, put the money in a foreign currency bank account
s Forward Market: Buy forward contract
” Futures Market: Buy futures contract
o Options Market:
• Buy Call Options: Buy the right to buy FX from the seller at
what you believe is a low price
Sell Put Options: Sell the right to sell FX to you at what you
believe is a low price

SPECULATION: Spot, Futures, Forward and Option strategies
If a speculator believes that a foreign currency will decrease in price:
” Spot Market: Borrow foreign cunency, sell FX now, put the money in a domestic currency bank account
” Forward Market: Sell forward contract
” Futures Market: Sell futures contract
0 Options Market:
Buy Put Options: Buy the right to sell FX to the the dealer at what you believe is a high price
Sell Call options: Sell the right to buy FX from you at what you believe to be a high price

Some information useful:

Options Contracts: Preliminaries

” An option gives the holder the right, but not the obligation, to buy or sell a given quantity of an asset in the future, at prices agreed upon today.
e Calls vs. Puts
* Call options gives the holder the right, but not the obligation, to buy a given quantity of some asset at some time in the future, at prices agreed upon today.
& Put options gives the holder the right, but not the obligation, to sell a given quantity of some asset at
some time in the future, at prices agreed upon today.
7•21

Options Contracts: Preliminaries
e In-the-money
n Call: The exercise or buying price (E) is less titan the spot price (S)
of the underlying asset
q; Put: The exercise or selling price (E) is more than the spot price (S)
ofthe underlying asset.

” At-the-money
” Call & Put: The exercise price (E) is equal to the spot price (S) of the
underlying asset
• Out-of-the-money
s Call: The exercise or buying price (E) is more titan the spot price (S)
of the underlying asset
s Put: The exercise or selling price (E) is less titan the spot price (S) of
the underlying asset
7-23

Currency Call Option

., The buyer of a currency call option is granted the right but not the obligation to buy a specific currency at a specific price (exercise or strike price) within a specific period oftime (expiration date).
., The seller of the call must deliver the currency at the exercise price exercised against.
” The call option buyer pays a specific price for each call
(call premium), which the seller of the call receives.

Basic Call Option Pricing
Relationships at Expiry

• If the call is in-the-money, it is worth S- E.
‘” If the call is out-of-the-money, it is worthless.
C = Max[S- E, 0]

7-25

Profit I Loss for Buyers I Sellers of
Calls

Call Buyer Call Seller
When: In I Out Exercise? Profit I Loss Profit I Loss
S>E In Yes [(S- E)- C] * N – [(S- E)- C] * N
S<E Out No [- C] * N [C]* N
S “”‘ Currency spot price, on expiration date
E =Exercise price for call or put
C =Call premium I unit
P =Put premium I unit
N =Number of units I contract
If the spot price of the currency (S) is;
more then the call exercise price (E), then the options is in tlte money Jess then the call exercise price (E), then the options is out of the money equal to the call exercise price (E), then the options is lll the money

Basic Option Profit Profiles

Profi ow””er of the cClll

If the call is in-the
money, it is worth

/
/ Long I call

S-E. /
If the call is out-of /
the-money, it is /
worthless and the s
buyer of the call loses his entire investment of c.

7-27

Basic Option Profit Profiles

Profit seLler of the cetll

If the call is in-the• money, the writer loses S- E.

If the call is out-of
the-money, the writer
keeps the option s
premium.

loss

7-28

Example

Profit
• Consider a call
option on £31,250. /
• The option premium // Long I call
is $0.25 per£ on I pound
• The exercise price is /
$1.50 per£. 1——,-/,f——-
-$0.25 r—• •.: s
‘ ‘
:$1.75
$1.50

loss

Currency Put Option

Basic Put Option Pricing
Relationships at Expiry

• If the put is in-the-money, it is worth E- S.
• If the put is out-of-the-money, it is worthless.
P=Max[E-S,O]

7-31

Profit I Loss for Buyers I Sellers of
Puts
Put Buyer Put Seller
When: In I Out Exercise? Profit I Loss Profit I Loss
S>E Out No [- P] * N [P] * N
S<E In Yes [(E- S)- P] * N – [(E- S)- P] * N
S “”‘ Curre!tcy spot price. on expiration date
E = Exercise price for call or put
C Call premium!unit
P = Put premium I unit
N =Number of units!contract
If the spot price of the currency (S) is:
more then the call exercise price (E), then the options is out of the molleJ’
less then the call exercise price (E), then the options is in the money
equal to the call exercise price (E), then the options is at tile money

Basic Option Profit Profiles

If the put is in

Profit

ow A-er of tVe ‘Put

the-money, it is E _ p worth E -S. The maximum gain is
E-p
Ifthe put is out
of-the-money, it
is worthless and — P
the buyer of the put loses his entire investment
ofp. loss
7 33

s
long I put

Basic Option Profit Profiles

If the put is in the-money, it is worth E r- The maximum loss is
-E + p

Profit

seller of Ute -put

If the put is out- P ——————7:’
of-the-money, it 1—–,/(-, ——–:S
is worthless and / : :

the seller of the / E-‘ p :’
put keeps the / E
option premium _ /

short l put

0f P-

-E+pr
loss

Example

Profit f,’hat is the maximum gain on this put option?
$42.187.50 -‘f;4:<_il?}’.50 = £:3 250X(-‘f;i.50 –‘f;O.i5)/£
• Consider a put “- what exchange rate do you break even?
option on £31,250. ”
• The option premium “”

is $0.15 p:$:_687.50l> f–_-_–_-_-_:_”r:’i’,–

—– s

$1.35: I on£ l put
• The exercise price is $ 1’50 1>n £ 1.250
$1.50 per pound. •
loss -‘f’4,bl?7.50 = £3i,2SOX (-‘!’O.iS)/€

7-35

Options Contracts: Preliminaries

• Intrinsic Value
The difference between the exercise price of the option and the spot price ofthe underlying asset.
• Speculative Value
The difference between the option premium and the intrinsic value of the option.

Option
Premium

Intrinsic +
Value

Speculative
Value

7-36

Currency Options Markets

* PHLX
• HKFE
o 20-hour trading day.
* OTC volume is much bigger than exchange volume.
o Trading is in six major currencies against the
U.S. dollar.

7-37

Sample FX Options Price Quotes
– – – — • –r— r— — —– – – — —…
Options PMtadelpilia t:xc!lfmyo

Euro
l(qJOO f:uro-cents pE!r unit.

Cot!Is Puts

j/15 Mar 3.9B IAI!
1’!6 Mar :133 L/8
}IJ ‘/ Mac 2.73 2.1 [)
11•8 M<H ?:./2 2.66
I Jl;S Jun ,,_88 257
Jit6 Jun lt.28 2-90
l117 Jun 3.73 3.33
148 Jun 3.23 3.83
Japanese Ye!!
1 ,000,000 J.Yen-100H1s of a cent pe1• unit.
91 Jan L16 ./! ;

9LQL,

95 Jun….. ” — —

:5.09 2.26

Currency Call Option: An Example

” Suppose on 1/30/20XX (See attached quote) :
‘* March call options on euros with a strike price $1.45 are selling for
$0.0398. This option allows you to buy E !0,000 by the third
Wednesday of March at a price of$1.45. The total price for one contract is: 10,000 * $0.0398$398.
0 March call options on Euros with a strike price $1.48 are selling for
$0.0222. This option allows you to buy E 10,000 by the third
Wednesday of March at a price of$1.45. The total price for one contract is: 10,000 * $0.0222$222
“‘ Given that the current price of euro is 1.4744, are these call options in or out of the money ?
<> How can you loose or make money from this position?

Currency Put Option: An Example

” Suppose on I/30/20XX (See attached quote):
January put options on yens with a strike price $0.0091 are selling tOr
$0.000045. This option allows you to sell Y 1,000,000 by the third
Wednesday of January at a price of $0.000045. The total price for one contract is: 1,000,000 * $ 0.000045$45.
& March put options on yens with a strike price $0.0093 are selling for
$0.000216. This option allows you to buy Y 1,000,000 by the third
Wednesday of March at a price of$0.000216. The total price for one contract is: 1,000,000 * $0.000216$216.
” Given that the current price of yen is $0.009204, are these put options in or out of the money ?
• How can you loose or make money from this position?

American & European Options

o European options can only be exercised on the expiration date.
e American options can be exercised at any time up to and including the expiration date.
0 Since this option to exercise early generally has value, American options are usually worth more than European options, other things equal.

7-43

American & European Option Pricing Relationships

e With an American call (C ) or put (Fa) option, you can do everything that you can do with a European call (Ce) or put (Fe) option AND you can exercise prior to expiry-this option to exercise early has value, thus:

7-44

SPECULATION: Spot, Futures, Forward and Option strategies
If a speculator believes that a foreign currency will increase in price:
@ Spot Market: Borrow home currency, buy FX now, put the money in a foreign currency bank account
” Forward Market: Buy forward contract “‘ Futures Market: Buy futures contract Options Market:
Buy Call Options: Buy the right to buy FX from the seller at
what you believe is a low price
Sell Put O(>tions: Sell the right to sell FX to you at what you
believe is a low price

SPECULATION: Spot, Futures, Forward and Option strategies
If a speculator believes that a foreign currency will
decrease in price:
0 Spot Market: Borrow foreign currency, sell FX now, put the money in a domestic currency bank account
g Forward Market: Sell forward contract
* Futures Market: Sell futures contract
0 Options Market:
Buy Put Options: Buy the right to sell FX to the the dealer at what you believe is a high pl’ice
Sell Call options: Sell the right to buy FX from you at what you believe to be a high price

note:Prescribed Textbooks
Multinational Business Finance
Author/s: Eiteman, DK, Stonehill, AI & Moffett, MH Year: 2013
Edition: 13th edn Publisher: Pearson
City: Sydney State: NSW
Country: Australia

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29.

Contemporary Rhetorical Theory

Order Description

Nietzsche claims that language is inherently rhetorical and that all our concepts are really tropes. Take 2-3 tropes from a particular field (in science, the arts, or politics) and describe how these tropes work rhetorically. If you believe these tropes help us understand the field better, say so and justify your claim.

Length and format: No matter what the topic, the essay should be 2500 words long (it can be as long as 3000, but more than that or less than 2500 will be penalized), including notes and quotations. Present it in a standard scholarly format. While the quality of the analysis and discussion is the main concern, you should aim to write as lucidly and engagingly as you can – an essay in rhetoric is itself an instance of rhetoric!

Topic: Nietzsche claims that language is inherently rhetorical and that all our concepts are really tropes. Take 2-3 tropes from a particular field (in science, the arts, or politics) and describe how these tropes work rhetorically. If you believe these tropes help us understand the field better, say so and justify your claim.

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30.

Literature review

Order Description

The title of the module is Understanding consumer behaviour.

This paper should only include the Literature Review section. It is a group report and my part is only the Literature Review. The purpose of this group report is to give you a chance to conduct real consumer psychology/behaviour research, analyse consumer data and interpret findings, translate them in practical marketing recommendations, and summarise them in a 3,000 words report.
Choose a non-conventional business idea of your own.

This group chose an online website where people can rent other people’s things and give their own for a lease in exchange for money.

https://www.goodshuffle.com/about

My part of the group report is to do the Literature Review.So this paper should only include the Literature Review section, nothing else.

The content of the literature review should answer the following: What is the support that the consumer psychology literature offers for such an idea? Which of the theoretical frameworks, tools and concepts we discussed throughout the module can be used to justify the selection of this idea in a more solid way? Synthesis is the key, here. Do not describe each theory but try to apply them on your topic.

Resources: (online articles and journals: EBSCO, journals, the ISI Web of Knowledge (available via Athens), EBSCO, the Association of Consumer Research website featuring high quality conference proceedings (http://www.acrwebsite.org/volumes/), and google scholar.
Main journals are:
Journal of Applied Psychology
Journal of Consumer Research
Journal of Marketing Research
Journal of Consumer Psychology
Psychology & Marketing

Please use the proper referencing as the paper has to be submitted on Turnitin for plagiarism check.

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31.

LEGO Individual Analysis

Order Description

The LEGO Group: Adopting a Strategic Approach?

Your task in this written assignment is to answer the following questions after a thorough analysis of the firm, LEGO. You will draw on your knowledge of the different elements of the ‘exploring strategy model’ in providing comprehensive but concise answers to the questions presented below. This written assignment will challenge your ability to apply what you have learned from this unit to date. You will do well in this assignment if you build on the theories, concepts, models and frameworks that we have covered in this unit to date when you answer the questions below. You are free to adopt your own style, approach and layout in presenting your answers to these questions in a formal written report. In other words, if you think you can present your arguments/ideas in narrative, tabular, graphic, or bullet-list forms (or a combination of these forms) in a clear and persuasive manner, then please do what you think is best. However, there is a word-limit for each question (i.e. number of words). The assignment has a total word limit of 2500 words.

Please use Times New Roman, font 12, double space, 1 inch margin all sides. Cite the references that you have used using the Harvard referencing style (author-date system) which is the one of the simplest referencing styles around. The reference list which you will provide at the end of your answer to question 2 is NOT counted in the maximum number of words. You may have appendices for some supporting analysis but use these sparingly as these are not counted in the word limit and will not be marked. Please refer to the evaluation rubric which the unit’s teaching team will use in marking your assignment. Please indicate the actual number of words at the end of your answer to each question. For this assignment, these teaching and learning materials are sufficient to complete this assignment. There is no need to go beyond these resources. The two questions are as follows (you need not write these questions in your report to save space- just the numbers followed by your answers):

Q1. What do you think is the most critical strategic issue confronting LEGO? Explain your answer by drawing on relevant topics in Strategic Management (maximum of 1,250 words).

Q2. Drawing on relevant topics in this unit, what do you think is/are the foundation/s of LEGO’s competitive advantage? Explain your answer. How do you think LEGO can identify and leverage its competitive advantage to respond to the critical issue that you have identified in Q1? (maximum of 1,250 words)

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