Chapter 2 An Overview of the Financial System

Chapter 2 An Overview of the Financial System Cathy Coyles Jason Zhong Cherry Lai Brendan Yep

Overview of Financial System

Introduction to Scenario 1 – We would like to show funds can be transferred from a saver to a lender through a financial intermediary (indirect finance). We have two characters in this event. Cathy is the owner of a mining business, and Cherry is a banker. – Cathy will be presenting her marketing plan to Cherry in hopes to raise funds, but Cherry rejects Cathy’s Plan.

Business Plan Hound Dog Corporation LTD. President & Owner: Cathy Trump

Table of Contents Executive Summary…………. 2 Mission Statement…………………. . . . 3 Overview of Business………………. . … 4 In-depth Financial Plan……………. . . . 5 In-depth Management Plan…………. . 6 In-depth Marketing Plan…………. . 7 Supporting Documents………………… 8

Executive Summary Mineral exploration has been moving forward with promising results. We struck a promising mineral vein and approximately one meter wide and tests so far show it to be two kilometers long. We are increasing drilling activity and conducting geological surveys to find the extent of the vein. We believe the site has a promising future.

Mission Statement • To exploit any and all minerals possible without causing any adverse affects to the environment.

Overview of Business • • Located 24 km north of Stewart, B. C. On 1500 hectors of crown granted land Active drilling for 4 years Gold, Silver, Copper, Lead, and Zinc

In-depth Financial Plan • • Balance Sheet Break-Even Analysis Income Statement Cash Flow

In-depth Management Plan 1. Personal history of the principal Donna Trump · Four years running the company · Project Manager for Shell Oil for 4 years before getting into mining · Finance and Accounting Background 2. Work experience · As project manager of Shell Oil, Donna Trump as responsible to assessing future investment opportunities. She has a lot of experience in forecasting and budgeting. 3. Duties and responsibilities · Donna Trump will be responsible for all financial decisions 4. Salaries and benefits · Because Donna Trump is full stakeholder in the company her wages will stay conservative during the exploration phase of the project at $60, 000 per year. 5. Resources available to your business. Hound Dog Corporation has 4 diamond drills leased on a four year contract. The mine location is located close to a major road and power lines to the site are already in place. A glacier fed creak also runs through the property and water filtration systems can be put into place if living quarters are needed.

In-depth Marketing Plan • Our closest competitors are Tech-Cominco and Mountain Boy Minerals currently large companies with property claims in the immediate area. • There project revenues are in the negatives as they are also only in the exploration phases of their project • Tech-Cominco has been in the mining industry for 20 years and Mountain Boy for 5 years • Tech Cominco currently holds half of the market share of mining companies in Canada • Tech-Cominco is an international company with several producing mines and exploration projects. Mountain Boy has a very small market share and currently hold the rights to three different claim area • The greatest advantage of our competitors is financial resource • Both business are growing with the expanding mining sector.

Other Supporting Documents 2004 -2006 EXPLORATION DRILL RESULT HIGHLIGHTS Main Gold - Silver - Base Metal Zone Hole(#) 2004 -31 2004 -32 2004 -34 and And 2004 -36 2005 -44 and 2005 -52 2005 -65 2005 -68 and 2005 -72 2005 -89 2006 -98 2006 -130 and 2006 -167 2006 -178 and Width(m) 14. 02 3. 05 16. 80 21. 30 5. 80 17. 80 44. 40 4. 60 118. 65 9. 15 4. 57 16. 77 15. 24 22. 53 11. 59 12. 17 3. 05 6. 10 3. 05 18. 29 Gold(g/t) 11. 65 11. 85 1. 50 11. 30 6. 40 11. 35 5. 95 4. 92 5. 39 47. 37 2. 08 1. 43 4. 21 15. 03 9. 98 8. 30 14. 87 11. 27 20. 63 11. 83 3. 59 9. 05 Silver(g/t) 22. 00 32. 90 50. 00 39. 50 30. 00 24. 87 8. 10 32. 76 69. 56 16. 50 8. 35 5. 08 12. 57 59. 68 14. 80 29. 50 15. 60 29. 40 35. 43 8. 30 37. 67 Copper(%) 0. 03 0. 31 0. 07 0. 13 0. 04 0. 06 0. 01 0. 14 0. 08 0. 04 0. 03 0. 00 0. 01 0. 29 0. 02 0. 00 0. 02 0. 01 Lead(%) 1. 00 0. 89 1. 86 1. 11 1. 35 0. 91 0. 79 0. 28 0. 16 1. 41 0. 47 0. 22 0. 09 0. 35 0. 21 0. 14 0. 08 0. 07 0. 27 0. 14 0. 08 Zinc(%) 1. 17 1. 13 4. 57 1. 85 2. 88 1. 47 2. 11 0. 56 0. 34 1. 74 1. 02 0. 69 0. 08 0. 25 3. 78 0. 86 0. 34 0. 19 0. 01 0. 44 0. 09 0. 22

Scenario 1 Rejection • Risky • Timeline conflicts

Conclusion of Scenario 1 • Without a financial intermediary, Cathy will never get her funds to expand her mine business. The bank will not have an opportunity to make a profit from the loan. Savers that provide funds to the bank will not make any interest income from their savings.

Who can we trust with our money? – Suppose, Cherry is a stranger to Cathy. It’s reasonable to believe that Cherry will not lend any money to Cathy. – If Cathy is a friend of Cherry, Cherry will probably lend money to Cathy. – What if Cathy is Cherry’s sister, parents or relative? It would be very likely that Cherry will lend her money to Cathy. – Does anyone believe that lending money to a family is safe? What are the associated risk?

Who can we trust with our money? – The answer will be “NO”. The risk will be even higher than lending to strangers. – If you lend your money to a relative, you might be upset if they can’t pay you back on time, miss payments, or they might not even pay you back. – You can’t do anything about it if they really don’t pay you back. – If it happens in real life, will it happen in business world?

China National Offshore Oil Corporation • Parent Company: CNOOC • Subsidiaries: 1. CNOOC • • Third largest producer of oil and gas in China 65% owned by parent company 2. CNOOC Finance Corporation • • an unregulated bank Majority owned by parent company

China National Offshore Oil Corporation • CNOOC (the subsidiary) deposit funds with the bank. • The bank (CNOOC Finance Corporation) which is also a subsidiary of the parent Company, CNOOC. • The function of the bank or the financial institution is to provide financial support to the parent company, CNOOC.

China National Offshore Oil Corporation • In 2002, Shareholders are very upset about the “loans to parent”, because CNOOC failed to seek prior approval from minority shareholder. Most importantly, they failed to follow the Stock Exchange of Hong Kong Ltd of disclosure of information. • In 2004, same type of transaction was occurred. Shareholder’s meeting was scheduled in Easter 2004, and the voter turnout was low. However, the approval didn’t go through. • In 2007, another shareholder’s meeting about “loan to parent”. Did they not learn ?

China National Offshore Oil Corporation • If they have nothing to hide, why did they break the rules, and why did they schedule the shareholder’s meeting during a national holiday? • If the company is willing to take the risk of breaking the rules and upset their shareholders, the benefit must exceeds the risk of doing it.

Air China • Parent: China National Aviation Holding • Subsidiaries: – China Air , – China National Aviation Finance

China Air • China Air deposit about 289 millions in China National Aviation Finance in 2003 • In one of their newsletter: – China National Aviation Finance said, “They are not responsible nor they are able to recall loans to other members of the parent network if those loans go bad”. • The result is: China Air shareholders are not protected.

Conclusion • The previous examples illustrated the risk of lending money to parent companies. • Traditionally in Asian culture, as the parents get older, they reply on their children for financial support. The idea seems to be the same for Chinese companies, especially state-controlled Chinese firms. • Are there any similar cases in Canada?

Introduction of Scenario 2

Questions • Age • Smoker/drinker • Pre-existing medical conditions • Hereditary health conditions • Criminal Record • Job (risk factor of employment) • Family situation (children) • Marital status

Permanent vs. Universal life insurance • 20 years annual premiums which are fixed • The premium depends on the coverage, and age on the holder of the policy • Provide life insurance for entire lifetime • Flexible on premiums • Low administration cost • Higher coverage, higher premiums • Can be monthly or annually • You can design you own investment portfolio that suits your risk tolerance • Provide life insurance for entire life time

Portfolio Design For Universal Life insurance 1 st year 2 nd year 3 rd year 10 year eurotop 100 11. 02% 10. 80% 14. 90% 2. 60% GGOF Canadian Large 20. 07% 13. 75% 17. 40% 4. 69% HK (Heng Seng) 60. 02% 34. 80% 27. 93% 4. 84% Mackenzie(money income fund index accout) 2. 30% 4. 50% 1. 86% Nikkei 228 index 1. 39% 9. 29% 14. 01% 1. 94% S&P 500 14. 69% 10. 75% 10. 60% 3. 17% S&P 500/TSX 60 index 20. 47% 13. 82% 18. 04% N/A

Adverse Selection • Before transaction occurs • Potential borrowers most likely to produce adverse outcomes are ones most likely to seek loans and be selected

Moral Hazard • After transaction occurs • Hazard that borrower has incentives to engage in undesirable activities making it more likely that loan won’t be paid back

Life Insurance • Protects family • Different formulas to determine plan • Savings features

Introduction of scenario 3 • Brendan is a wealthy household, and Jason is a financial planner from ABC bank. • Brendan would like to invest his money in foreign exchange stock market, and he wants his investment to have a 10 -15% annual return for 10 years. He also interested in emerging financial markets, such as Shenzhen and Shanghai stock exchange. • Jason will offer professional advice and execution on his investment in return for commission fees.

Scenario 3 Portfolio • Diversification Return: 15% annually

Advice on Diversified Portfolio • 45% Stock in mutual funds diversified across all sectors • 5% Cash for emergency bills • 7. 5% Real Estate to diversify away from financial assets • 10% Government Securities, a very safe investment • 15% International Securities, to take advantage of the global economy

Examples of Portfolios

Examples of Portfolios

Examples of Portfolios

Examples of Portfolios

Japan Nikkei 225 (1982 to 2007)

Sustainability • In the 1990 s, The Nikkei 225 was at its peak near 40, 000, and now, it’s around 15, 000. • At Japan’s financial peak, the land beneath the Imperial Palace in Tokyo was worth more than the entire state of California. In 2006, Real estate price is still below 1990 s • If we look back 10 years ago from now, we still have a negative return. • Japan has a very high standard of living, but they don’t have enough natural resource reserves.

Sustainability

Sustainability • As proportion of working population declines, the economic performance in Japan will also decline. • The fertility rate in Japan is 1. 29 in 2006, and it has lowest fertility rate among other countries.

Rate of return Around the World

Dividend growth Rate

Conclusion of scenario 3 • Funds will be transferred from Brendan who is the saver to the financial market through the financial intermediary. Without a financial intermediary, Brendan can invest in different financial instruments by himself, but he would have to take the risk of making less or losing more money without the help from financial intermediary.

Introduction to Scenario 4

Requirement for listing in TSX Venture Exchange • Only for exploration sector. • Do you have the material interest in Tier 1 and the geological report to back it up? • Do you have a list of Net Intangible Asset and work program ready?

IPO Purchase From Prospectus: • • • Risk Factors of Company Capital Structure Objective of Issue Financials of firm Long term goals

Conclusion to Scenario 4

Summary & Questions