Sales Capital Markets Corporate Finance

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Sales Capital Markets Corporate Finance

  1. 1. Giddy/ING Barings Investment Banking 1 Investment Banking at a Crossroads Prof Ian Giddy New York University Investment Banking Corporate Sales Finance Customer-Driven Securities Capital Markets Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 2
  2. 2. Giddy/ING Barings Investment Banking 2 What is Investment Banking? l Sales and Trading l Funds Management l Underwriting and Distribution l Advisory Services, including M&A l Research Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 3 Investment Banking’s Future l Banks vs. Markets l Relationships vs. Transactions l On Balance Sheet vs. Off l Domestic vs. Regional vs. Global l Debt vs. Equity l Bricks vs. Bytes Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 4
  3. 3. Giddy/ING Barings Investment Banking 3 Banks vs. Markets l Where are investors going? l What do today’s shareholders expect? l Where are corporate clients going? l Where is your bank going? l Common theme: “The end of entitlement” (which implies the end of special responsibilities) Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 5 Relationships vs. Transactions l Lower barriers to entry – more price competition l Frequent re-calculation of benefits: “What will you do for me next?” l Shareholder pressure weakens traditional relationships, obligations l In business, the effect is toward alliances, contract manufacturing, out-sourcing l Stability requires “new communities,” the more broadly-based the better Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 6
  4. 4. Giddy/ING Barings Investment Banking 4 Financial Innovation and the Shorter Product Life Cycle l More financial innovation l But most innovations fail l Fewer geographic barriers to entry l Fewer information barriers to entry Excess returns Time Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 7 Innovation as Value Creation l Innovations are costly to develop and produce, and easily copied, so l For an innovation to succeed, it must create differentiated value for issuer, investor, or risk manager, by: u Unbundling: create simple, more primitive instruments to isolate risks, or u Bundling: create tailor-made instruments to reduce costs, minimize taxes, or circumvent restrictions or imperfections. Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 8
  5. 5. Giddy/ING Barings Investment Banking 5 On Balance Sheet vs. Off l “All my assets are for sale, all the time” l Maximize ROE by increasing capital turnover – become originators instead of lenders Market value of transactions in Europe (1990-present) Euro bn 70,0 61,7 60,0 50,0 Asset-Backed Asset-Backed 38,8 35,4 40,0 Securities Securities 33,1 30,0 20,0 9,1 10,0 5,4 5,7 6,9 5,3 1,6 0,0 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 (YTD) Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 9 Domestic, Regional or Global? l Which are more mobile? u Goods markets u Labor u Services u Financial services l Even domestic institutions must be able to compete in the world arena Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 10
  6. 6. Giddy/ING Barings Investment Banking 6 Debt vs. Equity Index ($) A $1 10000 Small Company Investment Stocks $4,495.99 in Different 1000 $1,370.95 Types of Portfolios: 100 Large Company 1926-1996 Long-Term Stocks $33.73 Government 10 Bonds $13.54 $8.85 1 Treasury Bills Year-End 0.1 Inflation 1925 1935 1945 1955 1965 1975 1985 1995 Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 11 Passive vs. Active Investors l It’s an internet information age l Domestic shareholders want global returns – asset managers must beat benchmarks l Corporations or financial institutions which cling to underperforming assets will have lower ROE and share prices l Which makes them vulnerable to restructuring or takeover – Europe’s new market for corporate control Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 12
  7. 7. Giddy/ING Barings Investment Banking 7 Passive vs. Active Investors u Investors expect results or sell their shares; “friendly holdings” become too costly, opportunity costs become explicit u Venture capital, private equity funds attract investors by offering higher returns u Market-based returns now expected by investors and lenders, and required of managers; local differences persist, but diminishing Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 13 Bricks vs. Bytes l It’s a Nasdaq world, and it’s moving at “internet time” l The old economy needs the new economy to meet shareholder expectations Check your own Check your own bank’s online bank’s online “To B2B, or not to be?” and mobile and mobile financial services financial services l E-business or m-business? l Equity, not debt, is financing the new economy Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 14
  8. 8. Giddy/ING Barings Investment Banking 8 Whither European Financial Services? l The Anglo-Saxon model of transparent financial markets is coming, at internet speed l All assets must meet the test of the market – global shareholder return standards l Otherwise… Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 15 Example: Deutsche-Dresdner l What is Deutsche’s strategy? l Does the Dresdner acquisition advance that strategy? l What does it take to succeed in investment banking? Deutsche-Dresdner case study Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 16
  9. 9. Giddy/ING Barings Investment Banking 9 The Commercial Banking Model Assets Liabilities Loans Loans Deposits Deposits n Net interest n Net interest n Net interest n Net interest revenues revenues costs costs Goal: Add assets with positive net interest margin Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 17 The Investment Banking Model Corporate Sales Finance Customer-Driven Securities Goal: Originate deals and sell them in the capital market as quickly as possible Capital Markets Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 18
  10. 10. Giddy/ING Barings Investment Banking 10 What Strategy? Client-Arena-Product Matrix Products offered Markets covered Clients served Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 19 Products l Credit products l Trading and positioning l Risk management products l Financial engineering and structured finance l Underwriting and distribution l Asset management l Retail and private client services l Transactions services Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 20
  11. 11. Giddy/ING Barings Investment Banking 11 Range of Financial Services Firms FDIC Insured Consumer Credit Mortgage Commercial Mutual Securities Insurance Depository Loans Cards Banking Lending Funds American Express • • • • • • • • AT&T • • Bankers Trust • ¤ • • • • Citicorp • • • • • • • • Ford • • • • • • General Motors • • • • • General Electric • • • • • • • • ITT • • • • • • John Hancock • • • • • • • • J.P. Morgan • ¤ • • • Merrill Lynch • • • • • • Primerica • • • • • • Prudential • • • • • • • • Sears, Roebuck • • • • • • • • Transamerica • • • • • ¤ minor involvment SOURCE: The National Journal, the American Financial Services Association and Annual Reports. Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 21 NatWest Bank? NatWest Bank Clients Corporations Government Institutions High net worth Retail Products Securities custody x x Asset Management x x x Private Equity x Insurance x x Lending x x x x Deposits x x x x Securitization/Structured and Project Finance x x Equity underwriting Bond underwriting Mergers and Acquisitions Credit cards x x x Trading - Money market x x - FX and derivatives x x - Interest rate derivatives x x - Bonds x x - Securitized products x x - Futures x x Mortgages x Stock brokerage x x Corporate Advisory x Private Banking x Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 22
  12. 12. Giddy/ING Barings Investment Banking 12 Product Profitability Cycle n Do you want to be a n Do you want to be a Nescafe bank? Nescafe bank? Excess returns n Or a Starbucks bank? n Or a Starbucks bank? Time Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 23 Client-Arena-Product Matrix Build versus buy? Products offered Markets covered Clients served Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 24
  13. 13. Giddy/ING Barings Investment Banking 13 Client-Arena-Product Matrix Products offered Deutsche Bank in USA Markets covered Clients served Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 25 Client-Arena-Product Matrix Sell? Products offered Markets covered Clients served Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 26
  14. 14. Giddy/ING Barings Investment Banking 14 Using Industry Structure Analysis SUBSTITUTES Questions: l Do substitutes exist? l What is their price/ performance? Potential Action: l Fund venture capital and joint venture to obtain key skills l Acquire position in new segment SUPPLIERS CUSTOMERS Questions: Questions: l Is supplier industry l Is the customer base concentrating? concentrating? l Is supplier value/cost l Is value added to added to end product high, COMPETITIVE customer end product changing? high,changing? ADVANTAGE Potential Actions: Potential Actions: l Backward - integrate l Create differentiated product l Forward - integrate BARRIERS TO ENTRY Questions: l Do barriers to entry exist? l How large are the barriers? l Are they sustainable? Potential Actions: l Acquire to achieve scale in final product or critical component l Lock up supply of critical industry input Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 28 Complementarity and Cross-Selling Insurance Retail Wholesale Citigroup? Asset Management Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 29
  15. 15. Giddy/ING Barings Investment Banking 15 The Future of Banking: Where Do You Want To Go Today? l Banks vs. Markets l Relationships vs. Transactions l On Balance Sheet vs. Off l Domestic vs. Regional vs. Global l Debt vs. Equity l Bricks vs. Bytes Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 30 Raising Money for Companies Prof Ian Giddy New York University
  16. 16. Giddy/ING Barings Investment Banking 16 Corporate Finance CORPORATE FINANCE CORPORATE FINANCE DECISONS DECISONS INVESTMENT INVESTMENT FINANCING FINANCING RISK MGT RISK MGT PORTFOLIO MEASUREMENT CAPITAL DEBT EQUITY M&A TOOLS Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 32 The CFO Questions l How fast can we grow? What criteria for spending money? Acquisitions? Divestitures? l How should we finance our growth? What kind of equity? What’s our exit plan? Private or public? l How much (cheap) debt should we have? l What kind of debt should we have? Maturity? Fixed/floating? Currency? Asset-backed? Hybrids, such as convertibles? l How should we manage our financial risks? Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 33
  17. 17. Giddy/ING Barings Investment Banking 17 Financing X Inc Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 34 Financing X Inc Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 35
  18. 18. Giddy/ING Barings Investment Banking 18 Financing X Inc Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 36 Corporate Financing Life-Cycle Leverage Growth companies Mature companies Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 37
  19. 19. Giddy/ING Barings Investment Banking 19 Firm Characteristics as Growth Changes Variable High Growth Firms tend to Stable Growth Firms tend to Risk be above-average risk be average risk Dividend Payout pay little or no dividends pay high dividends Net Cap Ex have high net cap ex have low net cap ex Return on Capital earn high ROC (excess return) earn ROC closer to WACC Leverage have little or no debt higher leverage Earnings 0 Gearing Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 38 Financing Growth Companies: The Agenda l Where can we get the initial equity financing we need to grow? l Do we want money, management, or more? l When do we want to sell out, and how? l When is the right time for debt for a growth company? What kind? Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 39
  20. 20. Giddy/ING Barings Investment Banking 20 First, Why Equity? l Benefits of Equity u Flexibility: cannot afford to have fixed obligations u Strategic partners u Interventionist partners l Disadvantages u No tax shield u Expensive! Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 40 What Kind of Equity? l Sources of Equity u Private investors u Strategic investors u Interventionist investors u Public market l And Kinds u Common stock u Stock with restricted voting rights u Hybrids, including convertibles Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 41
  21. 21. Giddy/ING Barings Investment Banking 21 .comfax l Started in September 1997, .comfax enables users to send faxes and receive faxes over the internet at a low cost. l By June 1998 the company had expanded its services and was signing up subscribers at the rate of 100,000 a day. l Initial funding was “Angel” finance, but now the expansion was exceeding the company’s financial, physical and managerial capacity. On two occasions it had literally run out of money. l What form of equity financing would be appropriate for .comfax? Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 42 Pre-IPO Equity Financing l Friends and family l Angel l Venture capital l Strategic partners Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 43
  22. 22. Giddy/ING Barings Investment Banking 22 Pre-IPO Equity Financing l Friends and family l Angel l Venture capital om l Strategic partners .c ck ja ia as Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 44 Private Equity Funds l Private equity funds are generally structured as partnerships specializing in venture capital, leveraged buyouts, and corporate restructuring. l The private equity fund mobilizes funds, selects and monitors investments, eventually exiting the investment and paying back the investors. Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 45
  23. 23. Giddy/ING Barings Investment Banking 23 Silipos Inc Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 46 Silipos Inc, 1999 Debt? Debt? Where do IPO? IPO? you want to go? Acquisition? Acquisition? Sell? Sell? Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 47
  24. 24. Giddy/ING Barings Investment Banking 24 IntraLinks Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 48 IntraLinks’ Choices Ø Issue debt, either by borrowing from one of the big New York banks keen to get more involved in promising Internet businesses, or by means of a private placement of debt notes, possibly with “sweeteners” such as warrants to attract a lender. Ø Seek out one or more private equity investors, ones who believed in the company’s product and its management. Ø Do an initial public offering (IPO). Ø Find another corporation who would be willing to acquire IntraLinks. Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 49
  25. 25. Giddy/ING Barings Investment Banking 25 Why Venture Capitalists Prefer Preferred l Senior status in bankruptcy l Does not put a value on the shares l Is convertible into common stock before the IPO l Conversion price is set such that if there is a liquidation all the money goes to the preferred shareholders (equity is worth zero) Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 50 Case Study: Photronics Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 51
  26. 26. Giddy/ING Barings Investment Banking 26 Case Study: Photronics Photronics is the world's leading and fastest growing manufacturer of photomasks. Photomasks are high precision quartz plates that contain microscopic images of electronic circuits. A key element and enabling technology in the manufacture of semiconductors, photomasks are used to transfer circuit patterns onto semiconductor wafers during the fabrication of integrated circuits. They are produced in accordance with circuit designs provided by customers at strategically located manufacturing facilities in North America, Europe and Asia. Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 52 Case Study: Photronics Sales, 1994-99 Balance Sheet, end-1999 USD millions Assets Liabilities & Equity Cash 7.6 Current liabilities 50.2 Other current assets 59.9 Long term liabilities 132.7 Long term assets 319.6 Shareholder's equity 204.2 Total 387.1 Total 387.1 Market capitalization 720 P/E 26x EBIT/Int cost 5.77 Book Market D/E 0.90 0.25 D/(D+E) 0.47 0.20 Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 53
  27. 27. Giddy/ING Barings Investment Banking 27 The Company’s Debt Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 54 Should Photronics Have More Debt? l Benefits of Debt u TaxBenefits u Adds discipline to management l Costs of Debt u Bankruptcy Costs u Agency Costs u Loss of Future Flexibility Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 55
  28. 28. Giddy/ING Barings Investment Banking 28 How Much Debt? Relative Analysis The “safest” place for any firm to be is close to the industry average l Subjective adjustments can be made to these averages to arrive at the right debt ratio. u Higher tax rates -> Higher debt ratios (Tax benefits) u Lower insider ownership -> Higher debt ratios (Greater discipline) u More stable income -> Higher debt ratios (Lower bankruptcy costs) u More intangible assets -> Lower debt ratios (More agency problems) Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 56 The CFO Questions l How fast can we grow? What criteria for spending money? Acquisitions? Divestitures? l How should we finance our growth? What kind of equity? What’s our exit plan? Private or public? l How much (cheap) debt should we have? l What kind of debt should we have? Maturity? Fixed/floating? Currency? Asset-backed? Hybrids, such as convertibles? l How should we manage our financial risks? Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 57
  29. 29. Giddy/ING Barings Investment Banking 29 Raising Equity: The Investment Banker’s Job l Market conditions l Corporate needs Telekom Telekom l Valuation l Information l Distribution Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 58 Deutsche Telekom: The Sequence l See case Exhibit 2 Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 59
  30. 30. Giddy/ING Barings Investment Banking 30 What’s a Company Worth to Investors? l Required Returns l Types of Models Telekom Telekom u Balance sheet models u Dividend discount & corporate cash flow models u Price/Earnings ratios u Option models l Estimating Growth Rates Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 60 Equity Valuation: From the Balance Sheet Value of Assets Value of n Book Liabilities n Liquidation n Book n Replacement n Market Value of Equity Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 61
  31. 31. Giddy/ING Barings Investment Banking 31 Deutsche Telekom: Book Value l See case Exhibit 3 Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 62 Relative Valuation l Do valuation ratios make sense? • Price/Earnings (P/E) ratios q and variants (EBIT multiples, EBITDA multiples, Cash Flow multiples) • Price/Book (P/BV) ratios q and variants (Tobin's Q) • Price/Sales ratios l It depends on how they are used -- and what’s behind them! Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 63
  32. 32. Giddy/ING Barings Investment Banking 32 Deutsche Telekom: Ratios and Comparables l See case page 9 Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 64 Discounted Cashflow Valuation: Basis for Approach t =n CF Value ∑ = t t t =1(1+r) u where u n = Life of the asset u CFt = Cashflow in period t u r = Discount rate reflecting the riskiness of the estimated cashflows Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 65
  33. 33. Giddy/ING Barings Investment Banking 33 Deutsche Telekom: Earnings l See case page 8 Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 66 Valuing a Firm with DCF: An Illustration Historical Adjust for Gauge Projected sales Adjust for financial nonrecurring future and operating noncash results aspects growth profits items Projected free cash flows to the firm (FCFF) Year 1 Year 2 Year 3 Year 4 Terminal year FCFF FCFF FCFF FCFF FCFF … Stable growth model or P/E comparable Discount to present using weighted average cost of capital (WACC) Present + cash, - Market Value of value of free securities & value of shareholders cash flows excess assets debt equity Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 67
  34. 34. Giddy/ING Barings Investment Banking 34 Next l Bond Markets l Equity Markets l Domestic l International Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 68 Ian H. Giddy Stern School of Business New York University 44 West 4th Street, New York, NY 10012, USA Tel 212-998-0332; Fax 917-463-7629 ian.giddy@nyu.edu http://giddy.org Copyright ©2000 Ian H. Giddy www.giddy.org Investment Banking 72

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