International Corporate Finance ICF Jim CookHauptman Associates Inc

International Corporate Finance (ICF) Jim Cook-Hauptman Associates, Inc. (USA)

Introducing Jim Cook Ø President, CEO of NASDAQ Listed Company (Software Tools) and on the board of two publicly held and numerous private companies Ø President, CEO of Exxon-Mobil financed Company (Electronics) Ø President, CEO of Globatech, Inc. in Beijing (Financial DB) Ø Vice President, Computervision, Fortune 500 Company (CAD/CAM) Ø Taught MBAs at UCSD (Mfg. Economics), Worcester Polytechnic Institute (Advanced Mfg. ) and Melbourne (Entrepreneuring) Ø Consulted on management to: Du. Pont, Motorola, Bell Labs, … Ø Invited 6 times to speak on FNN about High Technology investing Ø Lectured on management at: Harvard, MIT, Renda, and CAS; BS math RPI, graduate math MIT, appeared with Jiang Ze Min on CCTV International Corporate Finance Day 1 in the am # 2 / 27

Purpose of these Lectures Ø Next Monday you could be an able Chief Financial Officer of a Int’l Manufacturing SME Ø This weekend you will get the perspective of seasoned operation in the functioning of finance Ø Issues of the CFO: Raising Capital – The Plan, the Package, and the Projections Capital Budgeting – The Real World, Evaluating, and Deciding The Markets – Analysis, Borrowing, Investing, and Reporting International Corporate Finance Day 1 in the am # 3 / 27

Agenda Ø Thursday – (Sessions am: 8: 30 -12: 00, pm: 1: 30 -5: 00) am: Structures, Statements, Value, Analysis, Currency pm: Time & Currency Discounting/Trading of Money Ø Friday – (Sessions am: 8: 30 -12: 00, pm: 1: 30 -5: 00) am: Workshop on Evaluating Financials. Discussion of the RMB pm: Internal Operations: Cash Management & Project Evaluation Ø Saturday – (Sessions am: 8: 30 -12: 00, pm: 1: 30 -5: 00) am: Workshop on Financial Projections and Raising Capital pm: External Operations: Markets’ instruments and practices Ø Sunday – (Sessions am: 8: 30 -12: 00, pm: 1: 30 -5: 00) am: Workshop on Mini-Cases: Process, Discrete, Software, e. Bay pm: Reviewing important points. Final Exam. On the Internet at: International Corporate Finance http: //cha 4 mot. com/ICF 0411 Day 1 in the am # 4 / 27

“Point of View” Ø “A point of view is [or can be] worth 80 IQ points” Alan Kay Ø Our Point of View: The purpose of a company is the sustained appreciation of the per share value of its common stock! (More on this in a moment. ) The CFO is not a cop, rather a management team player enabling progress and prosperity through creative, responsible finance No cash, no company! Cash is the oxygen of every company! CFO’s responsibility is cash: alerts, options, and management One size does not fit all: Ventures ARE different than MNCs China is unique with its own “Characteristics” At the end of this course, you could begin being CFO International Corporate Finance Day 1 in the am # 5 / 27

Forms of Business Organization The Sole Proprietorship Ø The Partnership Ø General Partnership Limited Partnership The Corporation Ø Advantages and Disadvantages Ø Liquidity and Marketability of Ownership Control Liability Continuity of Existence Tax Considerations International Corporate Finance Day 1 in the am # 6 / 27

The Purpose of a Company The purpose of a company is the sustained appreciation of the per share value of its common stock! Ø Purpose means why companies get people’s investment Ø Sustained – not just the next 3 months, but for years Ø Appreciation – means rise in value Ø Per share value – not the company, but the stock Ø Common stock – not other stock, options, or bonds It turns out that this leads seamlessly to ethical behavior: ü Avoid getting into distress situations with great diligence ü Buy back shares when undervalued; sell in “hot” market ü Conduct business legally, honorably, and transparently ü Develop more value day after day ignoring fluctuations International Corporate Finance Day 1 in the am # 7 / 27

A Corporation Organization Chart Board of Directors Chairman of the Board and Chief Executive Officer (CEO) President and Chief Operating Officer (COO) Vice President and Chief Financial Officer (CFO) Treasurer Controller Cash Manager Credit Manager Tax Manager Cost Accounting Manager Capital Expenditures Financial Planning Financial Accounting Manager Data Processing Manager International Corporate Finance Day 1 in the am # 8 / 27

Separation of Ownership & Control Board of Directors Assets International Corporate Finance Shareholders Debtholders Management Equity Day 1 in the am # 9 / 27

Board vs. Management Board Ø Ø Ø Ø Ø Time Horizon Report Frequency Reports To Job (Offensive) Job (Defensive) Qualifications Measurement Structure Membership International Corporate Finance 1 -5+ years Quarterly Shareholders Direction Oversight Minimal Subjective “Ad-hoc” 5 -15 Management 3 -6 months Monthly Board Performance Compliance Maximal Quasi-Objective Hierarchical 100 -300 Day 1 in the am # 10 / 27

GOVERNANCE CHART OF A BANK P R C Public & Markets R e g u l a t o r s International Corporate Finance Shareholders Board of Directors Audit Supervisory Risk Mgmt. Comp. Comm. Personnel Statutory Senior Management A u d i t o r s Legends: Committee Answers to Public Law Investors Insiders Day 1 in the am # 11 / 27

Cash Flows between Company and Markets Company issues securities (A) Company Invests in assets (B) Retained cash flows (F) Company can buy its securities Short-term debt Long-term debt Equity shares Taxes Current assets Fixed assets Cash Flow Dividends and from Co. (C) debt payments (D) Financial markets Government (E) International Corporate Finance Day 1 in the am # 12 / 27

Work of the CFO Ø Attend to Capital Needs Keep the books, make the reports, shepherd the business plan Alert President of Cash Situation; surprises immediately Make Business Plan for Capital Raising Ø Control Capital Flows Ø Monitor, administer & control day-to-day financial transactions Review, monitor & help projects; be custodian of “budgets” Enforce collections and encourage (early) payment Be a proactive custodian of the assets and obligations Manage Capital using Markets Secure lines of credit, put spare cash to work Insure safety of cash and securities, including liquidity Get good value from all intermediaries and consultants International Corporate Finance Day 1 in the am # 13 / 27

Life Cycle “Big Picture” Conceptual Entrepreneurial Emerging Established VIRTUAL INNOVATIVE GROWTH MATURE Angels Professionals Markets Opportunistic N/A Banks Markets Focus on Financing Sales Growth Earnings Cash Flow Concern “Birth” “Survival” “Strategic” “Tactical” Sales y 2 y N/M 50% and up 15% - 30% 5% - 10% Profitability N/M - 30% then +10% - 25% 5% - 10% Predictability None Qualitative Moderate High Capital Need Demo Development Growth Leverage Agenda Start Launch Manufacture Service Stock N/M 3% - 6% / mo. 15% - 30% S&P Index Horizon 1 Month 1 Quarter 1 Year 5 Years Time Line -. 5 to 1 1 to 5 6 to 15 15 to … Equity Source Debt International Corporate Finance Day 1 in the am # 14 / 27

U. S. Composite – Balance Sheet FY 2003 (in $ millions) Assets Current assets: Cash and equivalents Accounts receivable Inventories Other Total current assets 2003 $140 294 269 58 $761 2002 $107 270 280 50 $707 Fixed assets: Property, plant, and equipment $1, 423 $1, 274 Less accumulated depreciation -550 -460 Net property, plant, and equipment 873 814 Intangible assets and other 245 221 Total (net) fixed assets $1, 118 $1, 035 Total assets International Corporate Finance $1, 879 $1, 742 Liabilities (Debt) and Stockholder's Equity Current Liabilities: Accounts payable Notes payable Accrued expenses Total current liabilities Long-term liabilities: Deferred taxes Long-term debt Total long-term liabilities 2003 2002 $213 50 223 $486 $197 53 205 $455 $117 471 $588 $104 458 $562 Stockholders’ equity: Preferred stock $39 Common stock ($1 par value) 55 32 Capital surplus 347 327 Accumulated retained earnings 390 347 Less treasury stock -26 -20 Total equity $805 $725 Total liabilities and stockholder's equity $1, 879 $1, 742 Day 1 in the am # 15 / 27

Balance Sheet Notes Ø Ø Ø “Mark to market” means prices at market, not cost (not all items) Gains/losses of market changes are shown as “other income” Cash & Equivalent include money market & gov’t securities Accounts receivable are net; watch changes carefully Inventories include cost and labor (WIP); watch changes carefully Property is depreciated, net of salvage, by life or use Intangibles viewed as “funny money”; be skeptical of additions “Current” means in the next 12 months Accrued expenses are all but ordinary purchases and interest Preferred @ face, Common @ par, Treasury @ cost Retained earnings added in from the Operating Statement What’s left is the Capital Surplus (profit or above par on Common) International Corporate Finance Day 1 in the am # 16 / 27

U. S. Composite – Income Statement FY 2003 Total operating revenues Cost of goods sold Gross margin Selling, general, and administrative expenses Research and development expenses Depreciation Operating income Other income Earnings before interest and taxes Interest expense Pretax income Taxes Current: $71 Deferred: $13 Net income after taxes Retained earnings: $43 Dividends: $43 International Corporate Finance (in $ millions) $2, 262 - 1, 655 $607 - 300 - 27 - 90 $190 29 $219 - 49 $170 - 84 $86 Day 1 in the am # 17 / 27

Operating Statement Notes Ø Revenues are billable goods/services & sometimes progress est. Ø In time, before Revenues, is Forecast and Bookings (never shown) Ø Cost of Goods Sold directly proportional (roughly) to Revenues Ø Gross Income = Revenues-COGS (i. e. , direct labor, materials, …) Ø Overhead costs = General & Administrative, Research & Development, Marketing & Sales Ø Depreciation is by sum of digits, double declining, straight line or amortization over estimated useful life in time used or units made Ø Other income can include net currency gain/loss and exceptions International Corporate Finance Day 1 in the am # 18 / 27

U. S. Composite – Cash Flow FY 2003 (in $ millions) Cash Flow from the Firm’s assets Operating cash flow (Earnings before interest and taxes plus depreciation minus current taxes) Capital spending (Change in net fixed assets minus depreciation) Additions to net working capital Total Cash Flow to the Firm’s holders Debt (Interest plus retirement of debt minus long-term debt financing) Equity (Dividends plus repurchase of equity minus new equity financing and minus changes to capital surplus) Total International Corporate Finance $238 -173 -23 $42 $36 6 $42 Day 1 in the am # 19 / 27

Cash Flow Notes Capital Spending can be change in Fixed Assets + Depreciation Ø Additions to Net Working Capital = Δ (Current Assets – CLiabilities) Ø Changes in Treasury Stock reflect the net of sales and purchases Ø Ø Some additional sources of Financial Intelligence In USA, the 10 -K Annual Reports has all the annual disclosure requirements, but 10 -Q Quarterly Reports are very informative In Japan, the disclosure is best in world, but in Japanese The rating services of S&P and D&B give a real indication The Enron, Global Crossings, … debacles means better disclosure Watch Real Estate values for long term indicators of local economies Ø The Devil’s in the details: READ THE NOTES TO FINANCIALS!!! International Corporate Finance Day 1 in the am # 20 / 27

U. S. Composite – Financial Analysis Ø Debt Ability: Ø Current Ratio: (Current Assets)/(Current Liabilities) = 761/486 = 1. 57 Quick Ratio: (CA-Inventory)/(Current Liabilities) = (761 -269)/486 = 1. 01 Payout Ratio: (Cash Dividends)/(Net Income AT) = 43/86 =. 50 Retention Rate: 1 -(Payout Ratio) = (NAT-Cash Dividends)/NAT=. 50 Working Capital: (Current Assets)-(Current Liabilities) = 761 -486 = 275 Activity: (Annualized Ratios) Asset Turns: Revenues/Assets = 2, 262/1, 879 = 1. 20 Receivables Turns: Revenues/Receivables = 2, 262/294 = 7. 69 Collection Period: 365. 25/(Receivables Turns) = 47 days Inventory Turns: (Cost of Goods Sold)/Inventory = 1, 655/269 = 6. 15 Days in Inventory: 365/(Inventory Turns) = 365/6. 03 = 59 days International Corporate Finance Day 1 in the am # 21 / 27

U. S. Composite – Financial Analysis Ø Financial: Ø Debt Ratio: Debt/Assets = 1, 074/1, 879 =. 57 (small is stronger) Debt to Equity: Debt/Equity = 1, 074/(1, 879 -1, 074) = 1. 33 (small is stronger) Equity Multiplier: Assets/Equity = 1, 879 /(1, 879 -1, 074) = 2. 33 (leverage factor) Interest Coverage: EBIT/Interest = 219/49 = 4. 47 (365/4. 47 = 82 days) Book Value: Assets-Intangibles-Liabilities = 1, 879 -245 -(486+588) = 560 Performance: Net Profit Margin: (Net AT)/Revenues = 86/2, 262 = 3. 8% (times 2. 33 = 8. 9%) Gross Profit Margin: EBIT/Revenues = 219/2, 262 = 9. 7% Net Return on Assets: (Net AT)/Assets = 86/1, 879 = 4. 6% Return on Net Assets: (Net AT)/((Fixed Assets)-(Working Capital)) = 10. 2% Gross Return on Assets: EBIT/Assets = 219/1, 879 = 11. 7% Return on Equity: (Net AT)/Equity = 86/805 = 10. 7% Sustainable Growth Rate: ROE*Retention/(1 -ROE*(Retention)) = 6% Dupont identity: ROE = (Profit Margin)*(Asset Turnover)*(Equity Multiplier) = 3. 8% * 1. 20 * 2. 33 = 10. 7% International Corporate Finance Day 1 in the am # 22 / 27

U. S. Composite – Market Analysis Ø Assumptions: Ø (29 million Common Shares; Price per share = $ 29. 75) Earnings per share = (Net AT)/Shares = ($86 million)/(29 million) = $ 2. 97 Price to Earnings ratio = P/E = (Price/share)/(Earnings/share) = $29. 75/$2. 97 = 10 Dividend per share: (Cash Dividend)/Shares = $43/29 = $ 1. 48 Yield = Dividend/Price = $1. 48/$29. 75 = 5% Capitalization = (Price per share) * Shares = $29. 75 * 29 Million = $862, 750, 000 Capitalization to Book Value Ratio = Capitalization/(Book Value) = 862/560 = 1. 54 Analyst’s Report (NYSE: USC) Sell, don’t Short USCC is a mediocre company, through and through. It seems intent on maintaining its status quo; the S&P Index outperforms USC on a consistent basis. It should be said that USC is responsible; retiring debt, paying dividends, improving payables, and reducing inventory. At present, their Receivable are not yet a flag, but rather, a general reflection of the economic slowdown. USC’s Cost of Goods Sold (73%) suggests that their manufacturing operations are not as efficient as they should be. Their P/E ratio of 10 is consistent with this opinion. (Disclaimer: This is written without benefit of industry norms and history, which, I know, should never be done. ) International Corporate Finance Day 1 in the am # 23 / 27

Translation Currencies Ø Currency of Books and Records (CBR) the currency of the foreign financial statements Ø Functional Currency (FC) the currency generally used to buy, sell, borrow, repay, etc. Ø Reporting Currency (RC) the currency of the financial statements International Corporate Finance Day 1 in the am # 24 / 27

Foreign Currency Translation Ø Temporal Method – (Operating Statement reconciliation) Cash, receivables, payables @ closing day (exchange) rate Others assets/liabilities rate @ time of transaction Revenue and expense items @ average period rate All translation gains/losses reported on operating statement Use if reporting currency (RC) is functional currency (FC) Ø Current Rate Method – (Balance Sheet reconciliation) All assets & liabilities translated @ current day (exchange) rate Net worth translated @ historic rates Revenues & expenses @ average period rates All translation gains/losses reported on stockholders’ equity Use if functional currency is currency of books & records (CBR) International Corporate Finance Day 1 in the am # 25 / 27

Translation Situations Ø Billed in Yen, but not paid yet (AR) Recorded @ current rate, but paid at a different rate The difference, if accepted, must be recorded as gain/loss Temporal Method, no change to balance sheet, just earnings Current Method, translation change under Liabilities Ø You buy equipment from Overseas When you pay, your currency weakened; i. e. , costs you more Temporal Method says you lost money that period by not paying Current Method says that your new equipment costs more International Corporate Finance Day 1 in the am # 26 / 27

Concluding Remarks Ø Questions and Answers Ø Thank you, again. You can find a copy of this lecture (150 KB) on the Internet at: http: //cha 4 mot. com/ICF 0411 International Corporate Finance Day 1 in the am # 27 / 27