1. 1
VLERICK ALUMNI EVENT - FINANCIAL INNOVATION
ISSAM HALLAK – VLERICK BUSINESS SCHOOL
© Vlerick Business School
Investors
$
DEBT %EQUITY
“OWNERSHIP”
= control over ALL $
“LOAN”
= NO control over ANY $
INVESTING IN CORPORATIONS

2. 2
© Vlerick Business School
SIMILAR TO RENTING A CAR
Rent a car: car value $50,000
Contract:
Driver gives deposit $5,000
Limited liability: driver won’t pay more
© Vlerick Business School
SIMILAR TO RENTING A CAR
If car accident
Cost of repair: $10,000
New car value: $40,000
Car rental company:
Keeps deposit ($5,000)
Adds $5,000 for repair (total: $10,000)
Driver: no payment

3. 3
© Vlerick Business School
SIMILAR TO RENTING A CAR
If driver works and increases value of car:
New car value: $60,000
Gain: +$10,000
Driver:
Sell car: $60,000; repay car rental company
Profit +$10,000; 200% profit
© Vlerick Business School
COST SHARING LIKE SAND LAYERING BOTTLE
$45,000
$5,000
Initial
$45,000
$7,500
Good work!
$45,000
$2,500
Small damage…
$35,000
$40,000
More damage!
(-5,000)
$0Driver’s $
Car rental
company’s $

4. 4
© Vlerick Business School
Debt %
Equity$
Assets Equity & Liabilities
$
Investors
CORPORATE FINANCING IS COMPARABLE
$45,000
$5,000
© Vlerick Business School
Non-cash
Assets
Debt %
Equity$$
Assets Equity & Liabilities
$
Investors
CORPORATE FINANCING IS COMPARABLE

5. 5
© Vlerick Business School
Non-cash
Assets
Debt %
Equity$
Assets Equity & Liabilities
$
$
$ $
$
%
$
$
$
Government
$
CORPORATE FINANCING IS COMPARABLE
$
$10
$5
© Vlerick Business School
FINANCIAL DEBT / ASSETS - USA

6. 6
© Vlerick Business School
FINANCIAL DEBT / ASSETS – WESTERN €-AREA
© Vlerick Business School
Investors
$
DEBT %EQUITY
ConcentratedDiffuse
Management
- Strategy
- Operations
- Risk level
Public markets Private Company
Decisions
Investor Basis
STRUCTURE OF OWNERSHIP MATTERS

7. 7
© Vlerick Business School
TRADEOFF : INVESTOR BASIS / CONTROL
Large and private
© Vlerick Business School
TRADEOFF: INVESTOR BASIS / CONTROL
Public but concentrated ownership
1961 Warren Buffett

8. 8
© Vlerick Business School
WEALTHIEST PEOPLE CONTROL THEIR FIRMS
© Vlerick Business School
Investors
$
DEBT %EQUITY
ConcentratedDiffuse ConcentratedDiffuse
Renegotiation
- Valuation
- Information
- Cross-business
Public markets Private equity Bond Banks
Decisions
Investor Basis Investor Basis
STRUCTURE OF DEBT-HOLDERS MATTERS

9. 9
© Vlerick Business School
Non-cash
Assets
Debt %
$60
Equity
$50
$60
Assets Equity & Liabilities
$
$
$ $
$
$
FINANCIAL CONSTRAINTS ARE COSTLY
$10
$5
Return = 10%
© Vlerick Business School
Non-cash
Assets
Debt %
$45
Equity
$40
$35
Assets Equity & Liabilities
$
$
$ $
$
$
LOWER FINANCIAL CONSTRAINTS
$10
$6
Return = 15%
Reduce Cash
-$25
- $10 equity
- $15 Debt
(pay less %)

10. 10
© Vlerick Business School
CASH-HOLDING AND FINANCIAL CONSTRAINTS
© Vlerick Business School
BANKS REDUCE FINANCIAL CONSTRAINTS
Relationship lender is special lender of a company
We find that relationship Lending reduces financial constraints
Uncertainty ++ Cash
High Prospects ++ Cash
Relationship Lending -- Cash
& Uncertainty -- Cash
& High prospects -- Cash

11. 11
© Vlerick Business School
DOES INNOVATION REDUCE CONSTRAINTS?
For companies
Lines of credit
Trade related credit, Factoring.
Derivative Instruments
Microcredit
Credit Derivatives and Securitization
Convertible debt
Structured products
…
© Vlerick Business School
FINANCIAL INNOVATION AND GROWTH
“I wish that somebody would give me some shred of neutral
evidence about the relationship between financial innovation
recently and the growth of the economy.”
Paul Volker (Former Fed Chairman)
A long-run consideration of financial development suggests
that financial innovation is essential for growth.
Ross Levine

12. 12
© Vlerick Business School
BANKS INNOVATION IS HINDERED
Today factors against innovation
After crisis “shock” inside bank
State ownership
Tighter regulation rules
Tighter supervisory control
© Vlerick Business School
OUTSTANDING CORPORATE BANK LOANS
Source: ECB

13. 13
© Vlerick Business School
CORPORATIONS SECURITIES ISSUANCE
Equity securities issuance Debt securities issuance
© Vlerick Business School
“OUTDOOR” INNOVATION IS BOOMING
Latest innovations
Crowdfunding
Peer-lending
SME bonds
New payment system
Bitcoin
CoCo and COERC

14. 14
© Vlerick Business School
EXAMPLE OF ‘OUTDOOR’ INNOVATION
Public-Private Partnerships (PPP)
New banking liquidity regulation
Long-term loans are far more costly
⇒Banks ‘unable’ to finance PPP (or higher %)
⇒New financial constraint
© Vlerick Business School
PUBLIC-PRIVATE PARTNERSHIP (PPP)
=> Need for financial innovations to reduce financial constraints

15. 15
© Vlerick Business School
PPP – BANKS ARE INNOVATING
Matching interests between banks and insurance/pension funds
opposite regulatory and risk management requirements
Risk valuation is key hurdle
First phase: permits, constructions
Second phase: operation & maintenance
Banks stay as key players
Finance first phase
Institutionals take over: loan or bond
© Vlerick Business School
PRIVATE PUBLIC PARTNERSHIP BONDS
7
16
24
17
11 12
1 1
18
0%
1%
2%
3%
2005 2006 2007 2008 2009 2010 2011 2012 2013
Figure 3 - Share of bonds in European PPP transactions
The number of tranches invloving bond issuance is indicated above the charts.
Compiled from the Infrastructure Journal databse.