Giddy
Global Banking: Review I/1
Global Banking
&
Capital Markets
REVIEW I
Prof. Ian Giddy
Stern School of Business,
New York University
What is Global Banking and Capital
Markets?
The International Financial Markets
uMoney
and foreign exchange;
derivatives; international bonds &
equities; loan trading
l The
Global Banking Business
uLending;
trading and transactions;
underwriting; M&A; project financing;
asset management; advisory
services; etc
Copyright ©1999 Ian H. Giddy
International Financial Markets 2
Giddy
Global Banking: Review I/2
What are the Global Financial Markets?
l
The Foreign Exchange Market
l
Domestic and International Money Markets
Domestic and International Capital Markets
The Derivatives
International Equity and M&A
Using the Global Capital Markets: Global
Banking Strategy and Implementation
l
l
l
l
Copyright ©1999 Ian H. Giddy
International Financial Markets 3
Where the Eurocurrency Market Fits In
US Domestic
Market
Eurodollar
Market
Euro-Commercial
Paper Market
Copyright ©1999 Ian H. Giddy
German
Domestic
Market
EUR0CURRENCY MARKET
Euro-Deutsche Mark
Market
Foreign
Exchange
Market
Euro-Yen
Market
Euro-Floating Rate
Note Market
Japanese
Domestic
Market
Straight
Eurobond Market
International Financial Markets 4
Giddy
Global Banking: Review I/3
Interest Rate Linkages in the
International Money Market
Two stories to tell:
l Domestic vs. Euro
l Eurocurrency A vs. Eurocurrency B
Domestic Market A
Treasury
Bill
Treasury
Bond
The Euromarkets
Bank
Deposit
Corporate
Bond
Euro
Deposit
Market
Euro
Bond
Market
Euro
Deposit
Market
Euro
Bond
Market
Domestic Market B
Bank
Deposit
Corporate
Bond
Copyright ©1999 Ian H. Giddy
Treasury
Bill
Treasury
Bond
International Financial Markets 5
Global Banking:
Products and Customers
Prof Ian Giddy
Stern School of Business
New York University
Giddy
Global Banking: Review I/4
Products or Customers?
Corporate
Finance
Sales
Customer-Driven
Innovation
Capital
Markets
Copyright ©1999 Ian H. Giddy
International Financial Markets 7
Products offered
Client-Arena-Product Matrix
Markets covered
Clients served
Copyright ©1999 Ian H. Giddy
International Financial Markets 8
Giddy
Global Banking: Review I/5
Products
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
l
Copyright ©1999 Ian H. Giddy
International Financial Markets 9
Client-Arena-Product Matrix
Products offered
Build versus buy?
Markets covered
Clients served
Copyright ©1999 Ian H. Giddy
International Financial Markets 10
Giddy
Global Banking: Review I/6
Client-Arena-Product Matrix
Products offered
Example: SBC and US bank equity
Markets covered
Clients served
Copyright ©1999 Ian H. Giddy
International Financial Markets 11
Client-Arena-Product Matrix
Products offered
Sell? (NatWest)
Markets covered
Clients served
Copyright ©1999 Ian H. Giddy
International Financial Markets 12
Giddy
Global Banking: Review I/7
NatWest Bank?
NatWest Bank
Clients
Corporations Government Institutions
Products
Securities custody
Asset Management
Private Equity
Insurance
Lending
Deposits
Securitization/Structured
and Project Finance
Equity underwriting
Bond underwriting
Mergers and Acquisitions
Credit cards
Trading
- Money market
- FX and derivatives
- Interest rate derivatives
- Bonds
- Securitized products
- Futures
Mortgages
Stock brokerage
Corporate Advisory
Private Banking
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
High net worth Retail
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
x
Copyright ©1999 Ian H. Giddy
International Financial Markets 13
To Succeed,
Analyse the Industry Structure
SUBSTITUTES
SUPPLIERS
CUSTOMERS
COMPETITIVE
ADVANTAGE
BARRIERS
TO ENTRY
Copyright ©1999 Ian H. Giddy
International Financial Markets 14
Giddy
Global Banking: Review I/8
Product Profitability Cycle
Excess returns
Time
Copyright ©1999 Ian H. Giddy
International Financial Markets 15
New Financial Products:
Economics of Financial Innovation
Certain kinds of market imperfections
allow hybrids to flourish
l But innovation are readily copied; so only
certain kinds of firms can profit from
innovations.
l There is a product cycle and profitability
cycle of innovations.
l
Copyright ©1999 Ian H. Giddy
International Financial Markets 16
Giddy
Global Banking: Review I/9
Financial Innovations:
What to Look For
Reallocating risk
l Increasing liquidity
l Reducing “agency costs”
l Reducing transactions costs
l Reducing issuers’ or investors’ taxes
l Circumventing regulations
l Circumventing internal constraints
l
Copyright ©1999 Ian H. Giddy
International Financial Markets 17
Battle Mountain Gold
Forward Prices for Gold
$450
$425
$400
$300/oz = Cost of Production
Copyright ©1999 Ian H. Giddy
Each year, BMG
chooses to
produce if P>300
defer if P<300
International Financial Markets 18
Giddy
Global Banking: Review I/10
Principles of Innovation Through
Financial Engineering
Bundling and unbundling basic instruments
l Exploiting market imperfections (sometimes
temporary)
l Creating value added for investor and issuer
by tailoring securities to their particular
needs
l
Key: For the innovation to work, it must
provide value added to both issuer and
investor.
Copyright ©1999 Ian H. Giddy
International Financial Markets 19
Asset Securitization
CHASE (SPONSOR)
CREDIT CARD
RECEIVABLES
SALE OR
ASSIGNMENT
SPECIAL
PURPOSE
VEHICLE
CREDIT CARD
RECEIVABLES
Copyright ©1999 Ian H. Giddy
ISSUES
ASSET-BACKED
CERTIFICATES
International Financial Markets 20
Giddy
Global Banking: Review I/11
Example
Dayton Hudson Credit Card Maste r Trus t, Series 1995-1
Is s ue Date : 9/13/95
Expe c te d Maturity: 2/25/2002
S tructure : Senior/Subordinated, sequential pay
S e lle r: Dayton Huds on Receivables Corporation
Cards: Private label cards for Mervyn's, Target and Dayton's Department Store
S e rv icer: Retailers National Bank
Unde rwrite r: Firs t Bos ton Corporation
Tranche Face Value
A
$400 million
B
$123 million
Coupon
6.10%
0.00%
Collate ral Information
Yie ld on portfolio
His torical yield after delinquencies
Number of accounts
Overcollateralization of A Tranche
Largest geographic concentration
Copyright ©1999 Ian H. Giddy
Ave. Life
3 Years
3 Years
RatingDe s c ription Placement
AAA Senior
Public
AAA Subordinated P rivate
22.52%
18.90%
22,796,667
23.50%
California (24.9%)
International Financial Markets 21
Is the Company Ready for ABS?
l
l
l
l
l
Does the originator currently face a high cost of
funding assets that would be recognized as sound,
cash-generating assets if taken in isolation?
Does it have a regulatory or capital constraint that
makes freeing up the balance sheet important?
Does it have data about the assets (required by rating
agencies and financial guarantors)?
Does it have the servicing process and systems that
can meet the more demanding standards of the assetbacked market?
Is the originator willing to undertake a complex, timeconsuming transaction to obtain a broader, potentially
cheaper, ongoing source of funding?
Copyright ©1999 Ian H. Giddy
International Financial Markets 22
Giddy
Global Banking: Review I/12
Case Study: Ongoing Payments
Finance Co.’s
Customers
Hire-Purchase
Payments
Servicing Fees
Finance Co. Ltd
(Seller)
Monthly HP
Payments
FCL 1997-A
(Special Purpose Co.)
Monthly ABS
Payments
Trustee
Trustee
Responsibilities
Copyright ©1999 Ian H. Giddy
Guarantee
Responsibilities
Investors
Financial Guarantee
Provider
International Financial Markets 23
Project Financing
Definition
l
l
l
Lending to a single purpose entity
for the acquisition and /or
construction of a revenuegenerating asset with limited or no
recourse to the sponser
Repayment of the loan is solely
from the revenues generated from
operation of the asset owned by
the entity
Security for the loan
u the revenue generating asset
u all shares and interests in the
entity
u real property
u all contacts, permits
u authorizations, etc.; and,
u all other instruments necessary
for continuing project
operations
Copyright ©1999 Ian H. Giddy
International Financial Markets 24
Giddy
Global Banking: Review I/13
Project Financing
Definition
l
l
l
Steps
Lending to a single purpose entity
for the acquisition and /or
construction of a revenuegenerating asset with limited or no
recourse to the sponser
Repayment of the loan is solely
from the revenues generated from
operation of the asset owned by
the entity
Security for the loan
u the revenue generating asset
u all shares and interests in the
entity
u real property
u all contacts, permits
u authorizations, etc.; and,
u all other instruments necessary
for continuing project
operations
Project Identification
& Resource Allocation
Risk Allocation &
Project Structuring
Bidding & Mandating
Contracts
Due Diligence &
Documentation
Execution & Monitoring
Construction Monitoring
Term Loan Conversion
& Ongoing Monitoring
Copyright ©1999 Ian H. Giddy
International Financial Markets 25
Sample Structure
Arranging
Bank
Sponsors /
Shareholders
SINGLE PURPOSE
PROJECT COMPANY
Equipment
Supplier
Warranties and
Supply Agents
Contractor
Turnkey
Construction
Feed Stock
(e.g., fuel)
Supplier
Long Term
Agreement
Offtake (e.g,
power purchase)
Agreement
Syndicate
Banks
Other Project
Participants:
Purchaser
Currency and Interest
Rate Hedge Providers
Multilaterals and EDA’s
Operator
Copyright ©1999 Ian H. Giddy
Operations &
Maintenance Mgmt
Legal Counsel
Technical Consultants
International Financial Markets 26
Giddy
Global Banking: Review I/14
Joint venture agreement
Mobil QM
(Mobil Corp.)
30%
Contractors
Contractors
Contractors
Qatargas
(State of Qatar)
70%
Ras Laffan
Liquified Natural Gas
LNG
Contract
payments
Korea Gas
Residual
payments
LNG
payments
Security Trustee
(New York)
Ras Laffan
Debt service
payments
Debt service
payments
Bondholders
Banks
Export Credit
Agencies
Martell
l Martell
ufamily
uother
shareholders
l Seagrams
l Grand
Met
Concept: What are the goals and tactics
of each in this ownership transfer?
Copyright ©1999 Ian H. Giddy
International Financial Markets 28
Giddy
Global Banking: Review I/15
Goals of Acquisitions
Rationale: Firm A should merge with Firm B if
[Value of AB > Value of A + Value of B + Cost of transaction]
l
Synergy
u
l
Gain market power
u
l
Eg Martell takeover by Seagrams to match name and inventory with
marketing capabilities
Eg Atlas merger with Varity. (Less important with open borders)
Discipline
u
u
Eg Telmex takeover by France Telecom & Southwestern Bell
(Privatization)
Eg RJR/Nabisco takeover by KKR (Hostile LBO)
l
Taxes
l
Financing
u
u
Eg income smoothing, use accumulated tax losses, amortize goodwill
Eg Korean groups acquire firms to give them better access to within-group
financing than they might get in Korea's undeveloped capital market
Copyright ©1999 Ian H. Giddy
International Financial Markets 29
Fallacies of Acquisitions
Size (shareholders would rather have
their money back, eg Credit Lyonnais)
l Downstream/upstream integration
(internal transfer at nonmarket prices,
eg Du Pont/Conoco, Pru/Bache)
l Diversification into unrelated industries
(Kodak/Sterling Drug)
l
Copyright ©1999 Ian H. Giddy
International Financial Markets 30
Giddy
Global Banking: Review I/16
Using The Restructuring Framework
($ Millions of Value)
$1,000
$ 25
Current
perceptions
Gap: “Premium”
$ 975
$ 300
Company
value as is
Current
Market
Price
1
$ 635
Maximum
restructuring
opportunity
2
5
Restructuring
Framework
Strategic
and operating
opportunities
Potential
value with
internal
improvements
Financial
engineering
opportunities
4
3
Disposal/
Acquisition
opportunities
$ 1,275
Optimal
restructured
value
$ 1,635
$ 10
Eg Increase D/E
Potential
value with
internal
and external
improvements
$ 1,625
$ 350
Copyright ©1999 Ian H. Giddy
International Financial Markets 31
Mergers and Acquisitions: Summary
l Mergers
& Acquisitions
l Divestitures
l Strategic Alliances
Concept: Is a business worth more
within our company, or outside it?
Copyright ©1999 Ian H. Giddy
International Financial Markets 32
Giddy
Global Banking: Review I/17
Martell -- The Conclusion
Copyright ©1999 Ian H. Giddy
International Financial Markets 33
M&A Advisory Services:
1. Role of the Seller's Advisor
l
l
l
l
l
l
l
l
l
l
Develop list of buyers
Analyze how different buyers would evaluate company
Determine value of the company and advise seller on
probable selling price range
Prepare descriptive materials showing strong points
Contact buyers
Control information process
Control bidding process
Advise on the structure of the transaction to give value to
both sides
Ensure all nonfinancial terms are settled early
Smooth postagreement documentation
Copyright ©1999 Ian H. Giddy
International Financial Markets 34
Giddy
Global Banking: Review I/18
M&A Advisory Services:
2. Role of Buyer's Advisor
l
l
l
l
l
l
l
l
l
l
l
l
Thoroughly review target & subs
Advise on probable price range
Advise on target's receptiveness
Evaluate target's options and anticipate actions
Devise tactics
Consider rival buyers
Recommend financial structure and plan financing
Advise on initial approach and follow-up
Function as liason
Advise on the changing tactical situation
Arrange the purchase of shares through a tender offer
Help arrange long term financing and asset sales
Copyright ©1999 Ian H. Giddy
International Financial Markets 35
Alliance Capital
Trends in the business?
l Global business?
l Continue “active growth” management?
l Competition?
l Fees?
l
Copyright ©1999 Ian H. Giddy
International Financial Markets 36
Giddy
Global Banking: Review I/19
Portfolio Performance Evaluation
How well did the portfolio do?
l How do we adjust for risk, to compare
different managers?
l Why?
l
u Risk
u Timing
u Asset
allocation
u Security selection
Copyright ©1999 Ian H. Giddy
International Financial Markets 37
Global Brivate Banking
Key Issues to be Addressed
Personal, family, business and
political/economic context
l Personal Investment Portfolio
l Personal Retirement Plans
l Insurance
l Estate Planning
l Businesses
l
Copyright ©1999 Ian H. Giddy
International Financial Markets 38
Giddy
Global Banking: Review I/20
Private Banking
Individual Solutions
Translation
by our Specialists
Your Needs
Private Financial Planning
Overview
Account Management
Liquid assets and securities
Real Estate
Relationship-Manager
Partnerships
Fine Arts
Transfer of Wealth
Real Estate Advice
Structured Finance
Matching
your Needs
with our Expertise
Art Consulting
Estate- and Trust
Management
Copyright ©1999 Ian H. Giddy
International Financial Markets 39
Optimizing asset structure and tax
minimization opportunities
entrepreneurship
estate
retirement
Assets accumulated
financial portfolio
Proceeds from
selling the business
real estate
investment
?
pension plan
health insurance
create
Copyright ©1999 Ian H. Giddy
enjoy
share
transfer
International Financial Markets 40
Giddy
Global Banking: Review I/21
Global Private Banking
Client needs
l Provision of services to meet needs
l Where does the bank excel?
l
l
Add value to the relationship by building
from asset management to family
financial planning and family-owned
investment banking services
Copyright ©1999 Ian H. Giddy
International Financial Markets 41
After Glass-Steagall
Insurance
Retail
Universal Banking?
Wholesale
Asset Management
Copyright ©1999 Ian H. Giddy
International Financial Markets 42
Giddy
Global Banking: Review I/22
Citigroup
Buy? Sell? Hold?
l What’s unusual about the deal?
l Will the combination produce net
positive economic value?
l From where? Who will get it?
l How long before gains realized?
l Risks that the deal will fall through?
l
Copyright ©1999 Ian H. Giddy
International Financial Markets 43
Valuation: The Key Inputs
l
A publicly traded firm potentially has an infinite life.
The value is therefore the present value of cash flows
forever.
t =∞ CFt
Value= ∑
t
t =1(1+r)
l
Since we cannot estimate cash flows forever, we
estimate cash flows for a “growth period” and then
estimate a terminal value, to capture the value at the
end of the period:
t =N CFt
Terminal Value
Value= ∑
+
t
(1+r)N
t =1 (1+r)
Copyright ©1999 Ian H. Giddy
International Financial Markets 44
Giddy
Global Banking: Review I/23
Models of Valuation
Choose a
Cash Flow
Dividends
Expected Dividends to
Stockholders
Cashflows to Equity
Cashflows to Firm
Net Income
EBIT (1- tax rate)
- (1- δ) (Capital Exp. - Deprec’n) - (Capital Exp. - Deprec’n)
- Change in Work. Capital
- (1- δ) Change in Work. Capital
= Free Cash flow to Equity (FCFE) = Free Cash flow to Firm (FCFF)
[δ = Debt Ratio]
& A Discount Rate
Cost of Equity
Cost of Capital
WACC = ke ( E/ (D+E))
• Basis: The riskier the investment, the greater is the cost of equity.
• Models:
CAPM: Riskfree Rate + Beta (Risk Premium)
+ kd ( D/(D+E))
kd = Current Borrowing Rate (1-t)
E,D: Mkt Val of Equity and Debt
APM: Riskfree Rate + Σ Betaj (Risk Premiumj): n factors
& a growth pattern
Stable Growth
Two-Stage Growth
g
g
|
t
Three-Stage Growth
g
High Growth
Stable
|
High Growth Transition
Copyright ©1999 Ian H. Giddy
Stable
International Financial Markets 45
Products offered
Client-Arena-Product Matrix:
Citigroup
Markets covered
Clients served
Copyright ©1999 Ian H. Giddy
International Financial Markets 46
Giddy
Global Banking: Review I/24
Complementarity and Cross-Selling
Insurance
Retail
Citigroup?
Wholesale
Asset Management
Copyright ©1999 Ian H. Giddy
International Financial Markets 47