Practical examples?
In reaction to the existing agency conflicts the Dutch Government installed in April 1996 the Commission Corporate Governance (Commissie Peters). In June 1997 the commission came up with her report “Corporate Governance in Nederland; de 40 aanbevelingen”.
Corporate Governance is defined by Moerland as “het geheel van structuren, regelingen en conventies dat bepalend is voor de wijze waarop de effectiviteit waarmede een vennootschap door middel van een door prikkels en tucht geregeerde interactie tussen stakeholders wordt bestuurd en gecontroleerd” all of the structures, procedures and conventions that are relevant for the way in which the effectiveness of a company is controlled by means of interactions (incentives and punishments) between stakeholders (i.e. stockholders and management).
Corporate Governance actually has two key-issues, being transparency and power. Especially in bigger companies it is difficult for stockholders (who own (part) of the company) to get informed about the way the management runs the company. In other words they do have some power but there is no transparency (they are not that well informed) to do something with their “power”. The only accountability moment for the management is the annual report discussion during the stockholders meeting. Especially recommendations 26 and 29 of the report are important for this case. In those recommendations is stated that there should be a proportional division between capital placed and say (one share - one vote) and that there should be a clear and transparent accountability of the management for running the business in the last year.
A practical example of a hostile take-over is the Baan Company. Due to a delayed publishing of the annual report of 1997, bad results in the first half of 1998, and the complicated (not transparent) structure of the Baan-company and interrelations between Baan Company, Baan Investment and Vanenburg Ventures, many stockholders claim that Jan Baan, the former CEO, leaves the company. From that moment on Tom Tinsley will be chairman, ceo and president of the Baan Company. The 40 recommendations of the Commission Peters would have helped both Jan Baan and the other stockholders, but the Baan Company didn’t take over the recommendations and was left to go down the drain.
Another practical example is C&A. This company is owned by the Brenninckmeijer-family and has no other stockholders than family-members. Despite some internal family-affairs no hostile takeover can be done. They protect themselves from that by having no third-parties involved.
An example of an unsuccessful takeover attempt: The Stockholm Stock Exchange initiated a $1.19 billion hostile takeover bid of the London Stock Exchange. The attempt, even if unsuccessful, could complicate the LSE's planned merger with Germany's Deutsche Boerse.
And almost everybody, it seems, is doing it. Mainstays of the Fortune 500 like Johnson & Johnson and IBM began their first hostile takeovers in 1995. In January, the Hilton Hotels Corp. made a $10.5 billion hostile bid for the ITT Corporation, and a month later H.F. Ahmanson & Ahmanson Co., a large savings and loan company on the West Coast, made a $5.9 billion hostile offer for the Great Western Financial Corp. in an attempt to shift toward retail banking.
On cashflow and the time value of money
The E-commerce implementation project will be undertaken according to the net-present-value rule in case the return on the capital invested in the project will be higher than the minimum acceptable rate of return, the hurdlerate. This hurdle rate is, given the current borrowing rate (before tax), the tax rate, the risk-free rate, the market risk rate and the equity β, calculated as follows:
Cost of Capital (hurdle rate) =
Cost of equity + Cost of debt
30% / (30% + 70%) x (4.8% + 1.2 x 11.3%) + 70% / (30% + 70%) x (7% x (1 -/- 35%) =
= 14.217%
By using the found hurdlerate as the discount rate the net-present-value of the project can be calculated. The following table (table 2.1) summarizes the cashflows from the project each year for the five year life of the project.
Table 2.1
Conclusion is that the net-present-value of the project, using the hurdlerate as discountrate, is positive (EUR 381,000). Therefore the expected return on the project is a higher one than the minimum acceptable return to take on the project. Based on these calculations the project will be executed.
The taxpayment cashflows shown in the table 2.1 are calculated as stated in table 2.2 below. Assumed is that the interest on the debt related to the project will be paid at the end of each year of the five year period.
Table 2.2
On portfolio theory and diversification
a1) Expected rate of return on the portfolio is calculated as follows:
E(rp) = Wa . E(ra) + (1-Wa) . E(rb)
= 0,5 . 6 + (1-0,5) . 10
= 8%
a2) The risk of return on a portfolio is calculated using the following formula:
σp2 = Wa2 . σa2 + (1-Wa)2 . σb2 + 2 . Wa . (1-Wa) . σab
= 0,52 . 22 + (1-0,5)2 . 32 + 2 . 0,5 . (1-0,5) . 2 . 3 . ρ
When: ρ = + 1,0 => σp = 2,50
ρ = + 0,5 => σp = 2,18
ρ = 0,0 => σp = 1,80
ρ = - 0,5 => σp = 1,32
ρ = - 1,0 => σp = 0,50
b) Now the minimum variance portfolio can be calculated as follows:
Wa = (σb2 – σab) .
(σa2 + σb2 – 2 . σab
= (32 – σab) .
(22 + 32 – 2 . (2 . 3 . ρa,b)
Calculated weights of each minimum variance portfolio (calculated with a.m. formula)
Expected return and risks of each minimum variance portfolio (calculated with formula as at a2)
We notice the elimination of risk at ρ = -1,0 and Wa = 60% at Wb = 40%.
c)
Expected return & risk are calculated as in answer 3b but now for ρ = -0,5.
3d) Risk optimum portfolio is where both lines engage (approxemately 8% return at a
risk of approxemately 1,30%). This point yields the highest return at the lowest risk.
A bit of your own research
The Beta coefficients of four listed companies of the AEX index are investigated: Shell Royal Oil, ABN-Amro, DSM, Ahold. The source of the data is (1994-06/2001) and (07-08/2001), which give daily prices of the stocks (opening, lowest, highest and closing values which are used). We have made a spreadsheet in such way that monthly observations at a chosen fixed monthly day (e.g. second Tuesday; we have chosen the Wednesday of the 3rd week), a starting and ending date can be chosen (see subsections below). The different companies are scaled according to their mean value with respect to the mean value of the AEX.
Period 010194-present
If the available full period of the series is chosen (1994-present) most of the Betas are close to 1 because over this period there is a strong trend upward which most of the companies follow. Only the trend of DSM is less strong, which gives a smaller Beta (less variation).
Last two years
According to the given exercise also a period of the last two years is used. The scaled series are given at the bottom of this page. There is a lot of difference in betas with the previous one’s. In the graph it can be seen that DSM and Ahold are negatively correlated with the AEX. This is reflected in negative Betas.
According to these numbers ABN is the most risky stock in our example, although it is still a ‘defensive’ stock. As expected Shell is the most defensive one with a beta of 0.39.
Finally we compared the calculated Betas with those in the NRC Handelsblad (of Saturday September 1, 2001), which are calculated over the last three years too (monthly numbers are averages of highest and lowest daily prices).
The Betas listed in the NRC differ also from the calculated one’s; so the way constructing the monthly data and the longer period influence the Betas significantly. Because we were surprised by the difference with the NRC (but we think we are sure that we used the right method to calculate the Betas), we also evaluated a stock of which we expect really to have a larger Beta, namely KPN (technology; high risk). The calculated Beta was indeed much higher than 1: 5.07, which was expected, but the NRC value was much lower (1.31).
Overall conclusion: The period over which the Betas are calculated and the way of constructing the data have a big influence on the outcome.