Dividend to be paid or not?

Dividend is the share of the profit that a company decided to distribute to its shareholders. Dividend comes in many forms; in cash or stock. However, there are some limitations or restrictions in paying out dividend. If in the case of paying out dividend would hurt the company’s future plan or company’s current financial situation is liable to pay debt or tax, then the company has to give priority to tackle these issues.

Therefore, the dividend policies are differed from a company to company. Having a dividend policy is beneficial for company and shareholders. However, there are no clear cut dividend policies; therefore, the investor has to make assumption on what has occurred in the past. If a company’s dividend history is more volatile, the shareholders will identify the factors lead to the up and down movement of the dividend and determine how these factors will impact on current dividend period.

How UK companies pay the dividend? In public company, the usual practice is to declare the interim dividend in first six month of the company’s financial year and final dividend is recommended by the directors at the Annual General Meeting based on the profit made in the full year. But for private companies, the practice varies widely. The profit sharing to the people who own and run the company usually involves two ways. The directors will get through their salaries and it is usually taxed under the PAYE system in UK. The other way is to pay dividend to shareholder. Again the dividend is a taxable income but the tax rate is lower than for other source of income.

High yielding dividend stocks are attracting to many investors and majority of them would like to invest in them. However, there are a lot of arguments about dividend whether to pay or not for a company as well as whether to invest in such company or not. Warren Buffet’s famous quote is remarkable.

“Our shareholders are far wealthier today than they would be if the funds we used for acquisitions had instead been devoted to share repurchases or dividends”

His company “Berkshire Hathway” doesn’t pay dividends. He believes for each dollar retains in his company he can generate income 12% of return. He sees not paying dividend is correct action and by reinvesting in the business will compound the benefit overtime for the investor. His idea seems not appealing for those who looking for the safety by dividend collecting investment. Some company believe paying out dividend creates the better image for the company and building the trust to their stockholders. The most factual thing is it all matters to investor and his or her investing style. The choice is the desire on how to reap their investment.

The recent news about Air Asia announcement relating to paying dividend is quite interesting. The carrier’s board announced that they are confident that they will stick with a previously announced policy of paying an annual dividend policy of paying 20% of net operating profit despite 19 percent drop in fourth quarter earnings.

A company is liable to increase the profit. Air Asia’s present financial status is not much healthy as per their announcement. I wonder what their Board of directors are expecting by paying out dividend. An investor or a stockholder naturally expects a company has a responsibility to increase the profit. Paying out dividend while suffering the drop in earning has brought many unanswered questions. What is the Air Asia’s real strategy in paying out dividend?

Reference:

http://www.companylawclub.co.uk/topics/dividends.shtml

http://www.bloomberg.com/news/2014-02-27/airasia-confident-of-paying-2013-dividend-after-net-drops.html

http://www.businessinsider.com.au/r-berkshire-opposes-dividend-proposal-buffett-gates-get-pay-rises-2014-16

Lecture notes

Capital Structure and Shareholders' wealth

Capital structure of a firm is its assets through the combination of debt and equity. They have been used to build and grow the asset. A good logical capital structure portrays the quality work of financial management and it represents a firm’s value. Similarly, a bad logical capital structure can reduce the value of the firm. Based on information collected and its transparency, the investor can make a decision whether to invest in the firm or not.

Objective of a firm is to maximise the value. To meet this objective, a firm may need to change its financial structure if necessary. Being a firm’s value is built on its assets; in the event of financial distress or to generate more profit margins, the management team has to review the capital structure of the firm and may need to consider the refinancing.

Refinancing can be either debt or equity. The ability to select the right choice is very important for a firm. Some financial leverages are beneficial and some are not. The more debt financing a firm uses, the higher its financial leverage. The risk is the cost of capital of a firm. The high interest payment can affect a firm’s earning per share. This is against a firm’s objective to maximise the wealth and it is affecting the stockholder.

Here, I have learned about Modigliane and Miller’s Capital Structure Theories that in perfect markets, it does not matter what capital structure a company uses to finance its operations. However, in real world, there are changes of taxation, changes of interest rate, cost of bankruptcy and etc are affecting to the firm’s value. In order to understand the intrinsic value of a firm, the analysts and investors use WACC Weighted Average Cost of Capital as a decision tool that will analyse the minimum rate of return at which a firm can produce for its investor. 

Having the risk in debt financing does not mean the best option is to equity financing. The perspective between the firm and investors are different. Issuing new share appears to be promising as there is no liability to pay high interest rate but fall of EPS is not attracting to investor. Furthermore, issuing new equity depress the stock value in two ways; it t increases the supply, thus lowering the price; and it "signals" that management thinks the stock price is high relative to its true value. Conversely, a company that repurchases some of its own stock signals an undervalued stock. Buying stock back, the theory goes, will reduce the supply and increase the price (Milken, 2014). 

UK Premier Food has recently announced a plan to change of its Capital Structure to meet the long burden debt problem (UK.reuters.com, 2014). After announcement on 4th March 2014, the shares were down 5 percent to 133 pence at 0944 GMT. However, the management said that the capital refinancing plan is subject to approval by shareholders at a meeting on March 20. The management’s choice of refinancing method is mixed, partly equity and partly debt. The plan is to raise a total of 353 million pounds via a placing of new shares and a rights issue, and a further 475 million pounds through a bond issue.

They claimed that their refinancing package is designed to liberate. In fact, issuing new equity will reduce the level of the ownership of the shareholder and affecting the level of dividend they may receive in future. To appease the shareholders, the management of Premier Food are saying they have made pre-agreement with the lenders to pay a dividend to shareholders when the ratio falls below 3 times.

Overall, it appears the shareholders are losing both the level of ownership and dividend. The present situation of share price fall hope to be not lasted long and the hiring of cost of advisory group for refinancing may not significantly reduce the capability of giving dividend.   

In conclusion, reviewing capital structure is good for the firm’s financial health but the most important thing is to build a good logical capital structure that can enhance the business success both for the firm and stakeholders.

Reference:

Milken, M. (2014). Why Capital Structure Matters. [online] Retrieved from: http://online.wsj.com/news/articles/SB124027187331937083 [Accessed: 28 Mar 2014]

Uk.reuters.com. (2014). Premier Foods unveils $1.13 billion pound refinancing plan | Reuters. [online] Retrieved from: http://uk.reuters.com/article/2014/03/04/uk-premier-foods-refinancing-idUKBREA230HM20140304 [Accessed: 28 March 2014].

Lecture Notes

Credit Crunch and Minsky Moment

The term “Credit Crunch” can be defined as “a severe shortage of money or credit”. Credit Crunch and recession always go hand in hand.

People learn from their past experience and try to prevent not to happen again. It should be the same in the business world too. In history, there were a number of financial crisis. All were originated from the credit crisis. But the question is “Have we all learned? “.

In my opinion, it looks it does not. Since the fall of the US housing market in 2007, the credit problem had escalated and spread to many countries. UK had also suffered.

During a recession, the spending power of people falls and this has led business into unprofitable situation which makes people unemployed.  That means people are not able to spend as they use to. Thus makes circling and it takes years to remedy the situation.

The change of bank lending behaviour was the main cause of the recent crisis in 2008. The US Government policy of housing development for poor was one of the culprits which contributed the change of bank lending behaviour. Relaxing a lot of regulation for the buyers in the housing market had influenced the bank decision in giving out loan.  The lack of governance in regulation had caused the bank to give loans to the people whose financial positions were not fit enough.

In reality, the borrowers were not able to return when it was due; the bank suffered the loss of loan. To offset the risk, the bank increased the interest rate which made cost of borrowing was increased. This made the situation even worse.  The lenders were reluctant to finance. 2007 Crisis had brought the same situation. The banks were reluctant to borrow money to each other. In this scenario, the involvement of government was very important. A good example is the Northern Rock Bank in UK. Finally, the Bank of England had to fund the bank.

The lack of governance in lending regulation has pushed the mortgage advisor to make unethical decision. The more they have made the business profitable, the more they can enjoy the commission. This encourages them to bring more borrowers/ customers regardless of their financial background.

Regulators are important in governing the lending decision. All the parties must understand the responsible lending. The IT sector are also looking into this matter and trying to observe the best way to tackle. According to financial service technology, analyse house OVUM claim that it is foreseeable the end of credit crunch will be in 2018. According to Daniel Mayo, the practice leader, OVUM says "Lending is picking up and banks are looking to IT to analyse and understand lending decisions in order to minimise the risk of another financial crisis. This increase in responsible lending suggests that the end of the credit crunch is in sight."

As credit crunch can cause damage to economy, all parties involved; the economists, the analyst should monitor carefully after a long credit expansion in a country. For example, China

China builds their economy on debt. The threat is it is possible to burst. However due to the recent inflow of the China FDI into domestic market, it appears it is still manageable.

Therefore, the two Analysts, Morgan Stanley’s Cyril Moulle-Berteaux and Sergei Parmenov argue that China is approaching to its “Minsky Moment” (via Zerohedge).

Minsky Moment is a phenomenon named after the economist Hyman Minsky articulated  the periods of speculation and credit growth inflate assets, only to end in crisis.

Some economists and analysts reject their view, they say China is not in Minsky moment. However, the recent news about the steel mills’ credit squeeze in China (South China Morning Post) and China solar faces credit crunch (Forbes) are depicting China is under the threat which can lead to economic downturn.

Furthermore, as always history tells the truth, therefore, it is not possible to say China will not be affected by Minsky Movement. But it is not deniable it would worth to watch with care.

Reference:

http://www.forbes.com/sites/kenrapoza/2014/03/17/china-solar-faces-credit-crunch-as-power-stations-starved-for-capital/

http://www.finextra.com/news/fullstory.aspx?newsitemid=25862&topic=wholesale

http://www.businessinsider.com/has-chinas-minsky-moment-has-arrived-2014-3

http://www.scmp.com/business/commodities/article/1448025/steel-mills-caught-credit-squeeze

http://www.ibtimes.com/chinas-mountain-foreign-debt-not-scary-it-looks-1556107

http://www.theguardian.com/business/2012/aug/07/credit-crunch-boom-bust-timeline

http://news.bbc.co.uk/1/hi/business/7007076.stm

New Arena : Social Media and Corporate Finance

Funding a business or innovation is always a challenge for an entrepreneur. Traditionally, many start-up businesses approach bank or financial institution for funding. Some are successful but most are not partly due to little trading history. Thus makes a priority for an entrepreneur to find an alternative way to fund the business.

Recently a new arena of funding source has opened up.  “Crowdfunding” becomes a popular subject in today corporate world. Though it claims as new frontier, it is primitive and original in my opinion. History of “Crowdfunding” is originated in 1700 but it could even be earlier than that period. It has evaluated in different forms but the principle is a pool of funds from various investors for the same business purpose. Traditionally it would be from the family members and friends, however, in today terms, this could be from any investor who has interest in the project. The communication is through online platform, a social media.

Today’s “Crowdfunding” has three features; donation, equity and debt. Depending on the investor’s desire and interest, there are various website serving crowd funding facilities. The rewards are different based on their choice of investment. People invest because simply they believe in the aim of the project. Therefore, it could be in the form of social status or acknowledgement in “Donation Crowdfunding” and those who invest for equity and debt may have financial return in the form of interest or share of a start-up company. The value of the share in the start-up period may be different in future depending on the success of the business.   

Lack of regulatory authority means there is fraud risk. The investor has to carefully observe what they have chosen. However, the trend appears to be improving. In 2012, the US Congress passed JOBS Act (Jumpstart our Business Start-ups) to help the entrepreneurship and small businesses. Together with this, “Crowdfunding” becomes more popular and SEC US Security and Exchange Commission is now working on the law that a company can only sell to an investor through a middle man; a broker or a website that is registered with SEC.

For those businesses who are struggling to obtain credit from the bank, “Crowd funding” is a good opportunity. However, it is different for the investors. Unless they are willing to take a risk to lose the investment they have made, it appears they are not ready for “Crowdfunding” yet.

However, it does not mean it is totally unsafe due to lack of regulatory status. UK has its own code of conducts through UK Crowdfunding Association FCA. Through this FCA, there are many UK websites are participating in UK Crownfunding activities. Croudcube is one of platform offering “Crowdfunding” activities. UK TV presenter from Channel 4, Kevin McCloud has used this “Croudcube” to raise funds for his program “Grand Design”(E Moore, FT article, Jan 31, 2014). In UK alone, over £10m was invested for small business through  crowd funding during 2012 and 2013.

In summary, this acknowledges that there are investors who wish to invest through “Crowdfunding” regardless of the regulatory rules. But it is fair to comment that it will be more beneficial if there is a proper regulation and protection for the investors too.

Reference:

 http://www.ft.com/cms/s/0/1584f99c-8902-11e3-bb5f-00144feab7de.html?siteedition=uk#axzz2s9Mg2OI3

https://www.abundancegeneration.com/
https://www.kickstarter.com/blog/five-million-backers
http://www.nesta.org.uk/project/crowdfunding

Image Source: http://www.forbes.com/sites/work-in-progress/2012/09/21/the-jobs-act-what-startups-and-small-businesses-need-to-know-infographic/

Reviewing M&A Lectures

Today’s lesson in Merger and Acquisition, the lecturer raised a question relating Face Book purchase of Whatsapp.  He particularly wants us to think why this M&A take place and who is benefiting. Majority of students were not able to answer the question. I was one of them. This stirs me even after the lesson. My thoughts are lingering why Face Book purchase Whatsapp and how it is going to be beneficial.

According to Reuter 20^th Feb,Face Book agreed to purchase Whatsapp at $19 billion which was $4 billion in cash and £12 billion in Face Book Share plus extra $3 billion for the whatsapp employee. Many critics noted that the deal was more expensive comparing to the price Google offered to buy the youtube in 2006. On top of this, Whatsapp is allowed for its independence existence.  Therefore, many potential investors and analyst are talking about the profitability and success of the Merger. 

Being a line of business is similar and Whatsapp is a start up company, it would naturally be taken over by Face Book. This is what I thought but Face Book management might have different views, therefore, they had allowed independent existence.

In the corporate world, a merger is combining two organizations to become one; sometimes on equal term and sometimes it does not. Acquisition is a takeover of an organisation, in that case, the board of directors including the management of the team may lose the jobs and there is a possible reorganisation. Having allowed for independent existence means the companies agree to merge rather than acquisition. Most mergers/takeovers have a certain degree of risk attached to it. However, with the proper planning and well understanding of the business requirement, they can be successful. For example, Disney and Pixar

Furthermore, every Merger and Acquisition always has a motive behind the decision either to acquire or not to acquire. Depending on the business needs, the company who wishes to purchase must think ahead the strategic plan. Usually many M&A has three motives mainly on strategic motives, financial motives and managerial motives.

Image source: http://www.tutor2u.net/blog/index.php/business-studies/comments/the-main-motives-behind-takeovers-and-mergers

Out of three motives, managerial motive is the least possible as both companies are working on the basis of social networking and the pricewise, Face Book is a free service and Whatsapp is $0.99 pence for a whole year.  Face Book is having its revenue from the website traffic and advertisements but Whatsapp is boasting about being able to keep away the advertisement for their users. I wonder how Face Book could benefit financially from a start up company like Whatsapp. So, I assume there must be strategic motives behind the decision. What are they? Are they benefiting to shareholders?

Shareholders are always expected to maximise its wealth. But the present situation of high price offer and issuing more shares makes the Face Book share falls to 5%. On top of this, diluting shares means less dividend to the shareholders. However, a part of the process of Merger and Acquisition is to have the prior agreement with the shareholders. Thus means without the proper strategy, no major shareholders will agree to accept the process. 

The chart below may be one of the reasons Facebook choose to merge with Whatsapp. The data from the chart suggests Face Book is being threatened by the Whatsapp globally except US. So it is apparent that this merger was focused  to improve and develop the Face Book future to lead the global market..

Image source: http://gigaom.com/2013/11/26/study-facebook-messenger-still-reigns-in-the-u-s-but-other-countries-look-to-whatsapp/

From this, it could be summing up that the merger agreement is most benefiting to Face Book and contributing its future. Shareholders may suffer at this moment but for the longer term, if the management of Face Book strategically well plan, then there will be a possible profit in the future.

I am eager to know whether it is a successful merger or not. But in the mean time, it is a time to watch.

Reference:

http://www.reuters.com/article/2014/02/20/us-whatsapp-facebook-idUSBREA1I26B20140220

http://www.cnbc.com/id/34467713/page/3

http://techcrunch.com/2014/02/19/facebook-falls-5-in-after-hours-trading-after-announcing-16b-cash-and-stock-to-buy-chat-app-whatsapp/

http://www.nytimes.com/2008/06/01/business/media/01pixar.html?pagewanted=all&_r=0

FDI: The Good The Bad

Since 1994, a number of government policy changes have taken placed especially in the area of FDI Foreign Development Investment. For example, NAFTA agreement between the US, Canada and Mexico which has great success even though it has some hiccups.

Many policy makers and scholars traditionally regard FDI is important for economic growth. They adopt FDI as a form investment injecting into a country where there are business opportunities and in return, the receiving country can benefit by lowering the un-employment or having transferred knowledge and skills and boosting the country’s economy. Type of the FDI may be differed but the motives are the same.

Usually, the investors are looking forward to have a good return on their investment. The managements are looking forward the best place to do operate, alternatively, where there are business opportunities and profitability. Most developed countries are looking forward to invest in the least developed countries to take advantage of low wages and cost reduction. Similarly, the people from those countries who receive FDI expect two particular benefits from this investment; developing market environment and social environment.  With these two aspects and in view to build up the country economy, the government of the countries who accept investment allow the investment by giving a number incentive such as a number of years in tax relief or having a lower rate of tax.

Image source : http://getrealphilippines.com/blog/wp-content/uploads/2013/05/FDI-effects.jpg

Therefore, it is acceptable that “Win/Win” concept is rooted in FDI. Both sides; the investor and the country being invested are looking forward to have benefit from different perspective.

However, there are many historical events that FDI has some disadvantage if it is not properly applied especially a lack of government involvement in safeguarding the regulations and practice. One of the recent examples is the safety issue and ethical issue of Marks & Spencer investment in Bangladesh industry.

Furthermore, foreign ownership of companies can be a concern, especially if the industry is strategically important for countries. For example, Myanmar is being  too much reliant on FDI in energy sector.

Recently, Myanmar has changed its political view and opens up a number of opportunities for the investors. As Myanmar is lagging behind the neighbouring Asian countries, therefore, many economists believe FDI is a good opportunity for Myanmar for its economic growth. Following are the recent FDI investment made by world countries into Myanmar.

The top 5 investors are from China, Thailand, Hong Kong, Korea and UK. First, I am amazed by the UK on the number 5th. But thorough looking at the list, I have understood they are from British Overseas Territories and the reason behind the frequent UK official visit to Myanmar after opening. Together with this, I am interested to know the opportunities available in Myanmar and the sector most investors are interesting in Myanmar.

U Set Aung, the Deputy Governor of Myanmar Central Bank said FDI in Myanmar amounted to US$42.1 billion as of Feb 28, with the power sector ranking first at $19.2 billion. The top 3 sectors highest approved FDI is Mining, Oil & Gas and Power. Due to the limited availability of data, it is difficult to verify the investor interest. Are they only interesting in those sector where the higher and greater opportunities for profit?

Image source: http://www.nexiats.com.sg/uploads/images/Images/Nexia%20Pulse/2013Q4/highest%20FDI.jpg

Most of Myanmar FDI investments in oil and gas sectors are operating under the product sharing contract at 80:20 ratio. The management authority is with the foreign companies which appear to be natural and reasonably understandable. The oil produced from Myanmar oil field will be served to China, India and Thailand. But the present situation of Myanmar itself does not have sufficient supply for domestic use. The possible scenario is to purchase the necessary oil and gas from those fields to fulfil the need of the country. The energy is essential for all the projects operating under the economic reformation. The government should plan and handle this situation with care.

Based on the circumstances, the impacts of FDI are differed. In summary, Myanmar government has to judge the best for their own people. In the mean time it is fair to comment that Myanmar Government needs to create legally binding frameworks that embed compliance with the rule of law in all economic activities, whether in terms of labour law, environmental regulation, or arrangements covering social impacts. Some Myanmar officials are aware of the FDI negative impact but they acknowledge the need to change the policy and benefit of FDI. In Myanmar there is still some way to go before all of these are in place.

 References:

http://www.dw.de/20-years-on-does-nafta-need-an-overhaul/a-17453191

http://www.theguardian.com/environment/2013/oct/06/ethical-high-street-clothes-mands

http://useconomy.about.com/gi/o.htm?zi=1/XJ&zTi=1&sdn=useconomy&cdn=newsissues&tm=4511&f=20&su=p284.13.342.ip_&tt=8&bt=1&bts=1&zu=http%3A//www.imf.org/external/pubs/ft/fandd/2001/06/loungani.htm

Shareholder Wealth and Corporate Risk Management

Corporate risk management is a practice to optimize the risks in business operations and investing. The business leaders are responsible to control and management the risk to strengthen the business and maximise the shareholders wealth.

A business firm can have various types of risk, however, a firm which has international business have almost all the time there is a risk of foreign currency exchange risk. Unexpected exchange rate would change the value of the company. It could either be a gain or loss to the firm as well as to the shareholder.

Identifying potential sources of trouble, analysing them and taking necessary steps to prevent the loss are a duty of a business leader. Do all the business leaders fulfil this duty? My view is only the leaders with sound financial knowledge and experiences are capable to follow due to the complexity of international finance and the risk involved.  

In order to measure the impact of exchange rate movement of a firm, it is important to understand the type of the risk the firm is facing at present. A firm could face three types of risks namely, transaction risk, translation risk and economic risk.  

Currency market is volatile. When the market is fluctuant, income derived from foreign operations/transactions could be affected. Similarly, a risk in translating company assets and liabilities in terms of home currency and foreign currency, therefore, the misinterpretation of the company could result the loss of potential investor and it could affect to the shareholders too. Unlike the transaction and translation risk, the economic risk is related to the currency determination. It is basically the risk to the firm’s present value of future operating cash flows from exchange rate movement. For example, oil prices are set in USD, if the USD strengthens against the Euro, the oil company should increase the price.

Being a fluctuation of foreign currency could cause a risk to business profitability, a business leader must prevent the loss to the shareholders and organisation, however, risks vary from a business to business, depending on the size, industry, diversity of business lines, source of capital, the practices to tackle the situation are differed.

To reduce or eradicate the risk, many business organizations consider the hedging as a tool. It could be done in number of ways such as offsetting the borrowing or lending at market rate or purchasing a forwarding exchange contract to a future date, hedging foreign currency options or position the funds through transfer pricing and etc. They all effectively serve the same purpose but slightly in different ways.

The recent various news are indicating the change of Japanese Yen and Latin America currency has affected the many business operations such as LG, Samsung and etc.   As per FiREapps 2013Q3 Corporate Earnings Currency Impact Report, the most top 5 industries were Medical equiptment & supplies, Auto, Chemical  Manufacturig, Biotech & Drugs and Services Business.

This evidence the impact of foreign currency exchange risk to an organisation, therefore, business leader should not ignore and identify the possible way to handle the situation.  Otherwise, the business could lead into failure and would have a severe affect to the shareholder wealth.

References:

http://www.hedgefundsreview.com/hedge-funds-review/news/2199858/analysis-uk-court-case-highlights-pitfalls-of-legal-tax-avoidance-for-hedge-fund-managers#ixzz2LlZ57sIg 

http://www.investopedia.com/articles/basics/03/080103.asp

 http://www.investopedia.com/terms/o/offshore.asp#ixzz2LkMub8ht

http://www.investopedia.com/terms/o/offshore.asp#axzz2LjY7KQaG

http://www.investopedia.com/articles/forex/09/corporate-currency-risks.asp#axzz2LjY7KQaG