Paulo Leitao
Mercurio Capital Ltd
Business Mathematics Made Simple
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• (15 -20 minutes presentation)
• Overview industrial production in different
countries
• Capital Intensive (high Capex) – the basics
• Cost of equity
• Conclusion
• Q&A (20-25 minutes)
•
Ask for footnotes
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 Natural resources make a country rich.
 Capital intensive sectors are old-fashioned.
 Investors can make more money in digital
economy than in heavy industry.
 Germany is very successfull with their
industrial and manufacturing sector.
 UK economy will never have a strong
industrial sector.
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Some numbers...
 UK auto industry exports more cars than it imports. Last time this
happened:
1976
 UK place in world Industrial production 1895:
 1st (15%)
 UK place in world Industrial production 2015:
 9th (2.3%)
 Labour force in manufacturing:
 China: 100 million
 UK: 2.3 million






UK industrial success stories:
Automotive
Food & Drink
Pharmaceutical
Semiconductors
Aerospace and defense
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Comparison between Germany and UK industrial sector weight on GDP
 Germany’s industrial sector weight on GDP: 29,1% (25,1% industry, 4%
construction)
 UK’s industrial sector weight on GDP: 21% (14,6% industry, 6,4%
construction)
This difference in numbers...
GDP difference impact between 25,1 and 14,6: £ 192 billion*
Jobs: 612.000 extra jobs**
Would make the UK 5th largest in World GDP, from 6th***
* UK GDP 1.832 trillion X 10,5% (25,1-14,6) = 192 billion
**(Labour fource 31 million X 18,8% industry related jobs) * 10,5%
*** World Bank, United Nations, CIA Wold Factbook data
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Fact or Fiction?
 Everything is produced in China, nothing is produced in the UK.
 UK industrial components are often buried somewhere in an end-consumer product, with
final assembly in China.
 Industrial units are big polluters of the environment.
 Potentially a fact.
 “EU red tape” hinders and limits UK businesses.
 The Manufacturers Organisation (www.eef.org) manifesto includes campaigning to stay in
the EU.
 Public cash help doesn’t make a difference when financing industrial “high risk” projects.
 Government “Business Finance Partnership” program has helped create £ 5 of lending for
each £ 1 of government guarantees*.
 There’s financial resources competition between different sectors of the economy.
 Potentially a fact. Finance and construction seem to be linked, seeking “low risk”
investments rather than industrial “high risk”.
 “Continental style” of capitalism provides better ecosystem for long-term industrial
investments.
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 Anglo-Saxon style of capitalism led industrial production for most of last century (UK, USA).
 *https://www.gov.uk/government/publications/business-finance-partnership-activity-report
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 High Capex – low Opex/Low Capex – high Opex
 Liquidity premium (business plan and business
model lack of flexibility)
 Sensitivity to country/national risk
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Liquidity Premium
Square root to payback and/or
breakeven in years: (Initial
investment – salvage value)
project life 1  asset cos t less scrap value   1



asset cos t

Country Risk Premiums
Economist Intelligence
Unit Country Risk
Reports (score system):
Standard & Poors
Sovereign 10-year
yields
destination country score  home country score
X 100%
home country score
10-year Sovereign bond yield
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40
35
Licensing
Build
Operation
30
Return
Risk
25
20
15
10
5
0
Time
1
2
3
4
5
6
7
8
9
10
 Project is the guarantee, not the company’s balance
sheet or the director’s equity.
 Locking the Risk:
 Income streams Futures
 Interest rates Swaps
 Currency forwards
 Long term offtake contracts (5 to 20 years).
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 Return needed to keep the equity in the
company
 Intrinsic Risk & External non-controllable
variables
 Business Risk + Liquidity + Country Risk
 Main challenges with Equity:
Not visible (not cash/accounting cost)
Measured indirectly (Mkt multiples,
Quantitative Methods, Benchmarking,
Ungeared Beta, etc)
For private companies, more difficult to
measure
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Cost of Equity
(Required Rate
of
Return)
70
60
Seed
Build
50
TIO
40
Startup
30
Early
Growth
20
10
“T” - Technology
“I” - Implementation
“O” - Operation
Late
Expansion
IPO
Event driven
Mature
0
1
2
3
4
5
6
7
8
9
10
Present
value
100
100
11
12
Time
Future
value
20%
120
10%
110
20%
144
8%
119
20%
173
6%
126
20%
207
4%
131
207
131
Purely financial
dynamic: time
sensitivity
14
Years
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
Licensing
Business
Premium
Build
Business
Premium
Start
Up
Uncertainty
EXIT Sweet Spot
BP
BP
BP
BP
BP
BP
BP
BP
BP
CP
CP
CP
BP
BP
Liquidity
Premium
LP
LP
LP
LP
LP
LP
Country
Premium
CP
CP
CP
CP
CP
CP
CP
CP
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What are the ingredients of a successful industrial project decision making?
Capital
Budgeting
Operational
logic
Investment
logic &
capital
structure
Management Go/NoGo decision & “Design freeze”
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 Natural resources make a country rich.
 Capital intensive sectors are old-fashioned.
 Investors can make more money in digital
economy than in heavy industry.
 Germany is very successfull with their
industrial and manufacturing sector.
 UK economy will never have a strong
industrial sector.
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Mercurio Capital Ltd
www.mercurio-capital.com
 Follow us on Twitter! (Business Mathematics)
https://twitter.com/MercurioCapital
 LinkedIn Group (Business Mathematics Made Simple)
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