Do Mothercare really care about the dividends?

Mothercare recently announced that they intend to shut 170 UK stores over the next three years; bringing their store total down to 200 (BBC News, 2012). Mothercare has been on a gradual decline in recent times so this news does not necessarily come as a big shock to many. Shareholders are likely to be particularly disappointed as it was announced that dividend payments would be suspended as the company concentrated on refinancing its current bank borrowings (Financial Times, 2012). After being such a successful chain for so many years, where did it all go wrong? Had dividend payments dried up in recent years?

Mothercare reported that the company was debt free in May 2011, had refinanced its bank facilities and made increased dividend payments totalling £15.5m (Mothercare, 2011). The company was aware that it was struggling at the time so why did it make these payments? Some may suggest that Mothercare could afford to make this payment at the time as dividends can only be paid out of realised profits. The problem here is that it does not necessarily have to be the realised profits from that particular year. The dividend payments could be based on realised profits from a few years ago when the company was much more stable and successful.

Market value may have been one reason why Mothercare persisted in paying handsome dividends under the circumstances. As the company continued to increase their dividends, shareholders would hopefully stay invested in the company rather than selling their shares. A share price can decrease for a company if they do not make regular dividend payments. Some investors judge the performance of a company on the dividend payments. This suggests why some companies continue to make these payments when they actually cannot afford to.Making dividend payments for this reason does not solve the financial situation in any way. It just avoids the inevitable downfall that will occur in the future

As the graph below shows, the share price of the company remained high until October 2011 when the company issued its second profit warning of the year (BBC News, 2011). This suggests that the company did not maybe concentrate on its profits and margins as much as it should have. If this had been more of a primary focus then the profits may have remained higher and therefore the share price would not have dropped dramatically. .

(Yahoo Finance, 2012)
 

Porterfield (1965) argued that dividend payments should be used to maximise shareholder wealth. Modigliani & Millar (1961) countered this statement with ‘Dividend Irrelevance’. They suggested that in the short term dividend payments were not all that important and that the long term growth of a company is what would lead to shareholder wealth maximisation. If Mothercare had followed this advice then maybe they would not find themselves in this current predicament. An argument against this is how long is it possible to not make dividend payments for and when does the long term no longer become the long term? Surely there comes a point where shareholders would become disgruntled at not receiving any form of payment on their investment. Mothercare investors may accept not being paid dividends now but only on the basis that the company will repay them for this patience in the future.

                      

In February it was announced that Simon Calver would leave Lovefilm to take over the reign at Mothercare (BBC News, 2012). He will have been fully aware of Mothercare’s financial turmoil as they announced two profit warnings last year. Mr Calver must feel that he knows what needs to be done at the company in order to regain stability and move the company forward. However, many other senior figures have taken over at other struggling companies in the past and have failed to deliver what they promised; Woolworths being a perfect example. If the company does not succeed then some may argue that appointing Mr Calver will have cost money that could have been used more appropriately elsewhere in an attempt to save the company.

It is most likely that the new Chief Executive was the person who decided to not make dividend payments; this may well have been his first major decision in this role. This shows how dividends can play a key role in the success or failure of a company. It is important to notify shareholders as to why dividends will not be paid. If they are not informed then it is more likely that they will sell their investment and move elsewhere. If the message is communicated properly and the reason is justifiable then it is more likely that the shareholders will appreciate the honesty and maybe not sell after all.

UK companies currently pay dividends to their respective shareholders twice a year. An interim dividend is paid during the year and then a final dividend is paid after shareholder approval is given at an annual general meeting (AGM). I believe that this could be one of the main problems to why dividend payments made can be misjudged. Some companies may feel pressurised to make a payment even if they realistically know that they cannot afford to at that moment in time. If a company could choose to make dividend payments at any given time then surely this would be more appropriate. Companies would be able to assess all of their financial and investment options accordingly before deciding how much to pay in dividends and when to make this payment. It would become more apparent that companies were making dividend payments because they were in a position to do so rather than feeling that they had to because it was that time of the year. Companies could operate more efficiently in this manner and therefore the dividend payments may be more generous as the companies become more successful.

It is possible for companies to recover and be successful again but the right people need to be in place for this to happen. Strong characters are needed and these strong characters need to make the right decisions at the right time. Neil Harrington, the finance director of Mothercare, left the company in April (Telegraph, 2012) and this may be a blessing in disguise. One reason contributing to why that individual left may have been to avoid the tough times that lay ahead for the company.

Putting a stop to dividends in the short term may well be what saves Mothercare in the long term. Arnold (2008) states that dividends are “that part of profit paid to ordinary shareholders, usually on a regular basis”. This definition may not be appropriate in the near future if many other companies follow the trend of Mothercare.

Sources used:

Arnold
BBC News
Financial Times
Modigliani & Millar
Mothercare Annual Report
Porterfield
Telegraph
Yahoo Finance

Where did Peacocks get it wrong?

Optimal capital structure is the concept that a company can benefit from continuing to increase its debt through financing. As the gearing level continues to increase, the cost of the financing can actually begin to decrease. Companies have to be careful and try to avoid creating too much debt as the consequences can be drastic.

Peacocks has been in financial turmoil since last year and as a result of this the company ended up in administration. Recently the company came out of administration as it was sold to Edinburgh Woollen Mill. From this purchase 6,000 jobs were saved but 3,100 members of staff were made redundant (BBC News, 2012). How did Peacocks end up in this mess in the first place and why were the problems not prevented earlier?

Like many other companies, Peacocks suffered from the decrease in spending by customers during tough economic times. Mr Pope, joint administrator and associate partner at KPMG, suggested that the company also had “a surplus of stores and unsustainable capital structure” (BBC News, 2012). This comment suggests that it is possible for companies to take on too much debt therefore exceeding optimal capital structure. This is one factor towards why some companies have gone into administration in recent years. Peacocks went into administration in January 2012 as it failed to restructure £240m of its £750m debt (Financial Times, 2012). The levels of debt spiralled out of control and therefore the capital structure of the company collapsed.

Lots of companies become geared by borrowing money and building up debt. This can actually have a favourable effect on share prices. Maximising shareholder wealth is very important to most companies which may be why so many become highly geared. There is also a risk to shareholders in the long term and this should be taken into account. If their invested company begins to falter then the interest payment may become difficult to pay. The interest payments will remain the same even if a company begins to produce less profit. Peacocks could not make the necessary payments on the £750m debt as they were not producing the profits that had been expected.

Modigliani and Millar (1958) proposed an alternate theory to optimal capital structure. They suggested that there was no such thing as optimal capital structure and that the value of a company related directly to the risks to the business. If this concept were true then this would mean that many companies, including peacocks, may have altered their capital structure on false pretences.

Companies cannot just expect to be successful on a regular basis. Almost every company has moments when it may struggle; these factors may be an external effect that a company cannot control. Peacocks struggled because of the economic downturn. They probably did not envisage that spending would decrease as much as it did; this is a sign of over optimism. Companies such as Peacocks have to be more realistic in what can be achieved in the short term and the long term. If a company folds then many people suffer. Customers lose products they liked, shareholders lose investments and members of staff lose jobs as shown in the picture above. Companies need to be aware of the financial risk to the company for each proportion of debt that is attained. It is ok for companies to finance debt as long as it is within moderation. Each company should set itself a maximum gearing percentage that it can reach. This would hopefully avoid companies relying on this form of money too much and therefore survive in challenging times.  

Sources used:

BBC News

Financial Times

Modigliani and Millar



Do Banks act in a socially responsible manner?

Welsh MPs lead a recent debate in parliament to raise concerns about the impact of rural bank closures; HSBC had announced that three banks in rural Wales would close in March. MP Chris Ruane said banks must “look again at the balance between profit and social responsibility” (BBC News, 2012).

Socially responsible investment (SRI) is “an investment project that integrates social, environmental and ethical considerations into investment decision making” (Renneborg ,2008). It considers both the investor's financial needs and an investment’s impact on society (USSIF, 2012).

The chairman of RBS, Sir Philip Hampton, has been in the news on a regular basis this year. This is mainly because of the bad reaction that occurred after he had offered Stephen Hester a very handsome bonus. Sir Philip defended his decision; his reason for this was that RBS needed to be run “by the best people” on “competitive” pay (BBC News, 2012).

I believe that this is one of the main problems with SRI. The general public believe that companies do not do enough to support society. The companies would argue that their main priorities are to maximise shareholder wealth. Anything after this is usually just seen as a bonus. Some companies would most likely label being socially responsible as very low on their list of priorities. Is it right for companies to act and think in this way?

Ethical investing originally related to religious aspects. Different religions had different views on how money should be invested. These views have changed over the years and people are now more open minded to how money should and could be spent. This could be seen as a positive or negative light. A positive aspect is that there are now more options to how money can be spent and may well still be classed as an SRI. A negative may be that investments can be based on profits only. Some companies may find it perfectly acceptable to invest in cigarettes and alcohol as the return may be good. Some companies would class this as ethically wrong. Banks are known to look out for number one so as long as investments they made produced good returns then they would be fine with this.

Rules of SRI imply nothing about the source of investment fund. Not overly concerned about how people are getting their money. The question should be asked to whether this should be as important as where that money will be getting invested. Some may argue that bank charges may be too high and therefore they should not be entitled to all of those earnings. If banks did not charge the customer as much then they may not be able to offer the attractive bonuses to managers and CEO’s.

There are three main categories that SRI can be split between:

·         Responsible Investment
·         Socially Repsonsible Investment
·         SustainableInvestment
(EUROSIF, 2012)

It may be important to some companies as to what category an investment falls into. This may be the reason as to why the investment is made or not.

EUROSIF define SRI as:

“A generic term covering ethical investments, responsible investments, sustainable investments, and any other investment process that combines investors’ financial objectives with their concerns about environment, social and governance (ESG) issues”

This statement covers everything in terms of morals and ethics. Maybe certain social aspects should be concentrated on ahead of very vague issues. Certain aspects could maybe be agreed on as much more important than others and they are what should be focussed on first and foremost. Distinguishing what is important in society in relation to banks may have .

Philip, Hager and North Investment Management Ltd (2007) suggested that “if SRI is found to produce lower investment returns than SRI will never be more than a niche market”. This sentiment is something that banks would most likely agree with. Banks are aware of this scenario and would argue that if there is not a big benefit gained from an investment then why do it.

No matter how much SRI funds are tweaked they will never beat traditional funds (Schroder, 2004). However, SRI mirrors main index returns and they do become more comparable over time. The graph below supports this statement. If there is no difference between the returns on the two funds over time then may people may begin to choose SRI. To make benefits to society without losing funds can only be a good thing.

(CBS News, 2012)

Providing a good services and products to society under the best circumstances is what can make an average company become a multinational company. It is important for banks to remember that without their customers there would be no business. Just because rural areas do not suit their profit margins does not mean that they should be ignored.

Sources used:

BBC News

CBS News
EUROSIF
Philip, Hager and North Investment Management Ltd
Renneborg
Schroder
USSIF

Will the outcome of Greece cause a domino effect?

A credit crunch is thought of as "a severe shortage of money or credit" (BBC News, 2009).  Once companies begin to struggle financially, others can shortly find themselves in similar predicaments. Many around the world began to suffer when the credit crunch of 2008 occurred. In the UK, lots of banks began to suffer as a result of loaning too much money to companies and to the general public. Northern Rock was bailed out by the government due to their dire circumstances. Banks such as RBS soon followed this trend that occurred. Large companies could no longer rely on loans any more as banks were not able to loan copious amounts of money like before. Once the domino effect begins it is difficult for it to be stopped as it quickly gathers momentum.

A concern for many people now is that Greece is suffering immensely as a nation. Leaders in the Eurozone worry that if Greece were to default, and possibly leave the euro, that this would have a big impact on other suffering nations such as Ireland, Italy and Spain (Wall Street Journal, 2012).

Greece has recently managed to reduce its debt to private creditors by 53.5%; any profits made by Eurozone central banks on their holdings of Greek debt will be returned to Greece (BBC News, 2012). It is not just recently that Greece have begun to suffer as in 2010, the EU, IMF and ECB agreed a bailout worth 110bn euros for Greece (BBC News, 2010). It is a worrying sign that only two years later that Greece have pleaded for more help. Banks across Europe are effectively paying for this bailout which means they are the ones that will lose money.  Many experts believe that this second bailout will still not be enough in order for Greece to cope with the debt that is remaining in the long term. Eurozone monitoring will take place but it is already being questioned as to whether this will make a big difference to a dreadful situation.

 So where did it all go so wrong for Greece?

·         Greece was able to borrow money much easier as a result of joining the euro in 2002.

·         Greece spent too much money on high-profile events such as the 2004 Athens Olympics.

·         The country began to suffer financially and began to spend more money than it received.

·         Interest rates increased on borrowings as the nation continued to suffer.

·         Cuts to public sector pay and pensions were declared by the government along with reduced benefits and increased taxes.

 (BBC News, 2012)

Budgets on projects were regularly not met during this timescale as the spending spree lost control. Rumours occurred that statistics of the country’s financial condition were incorrect. Shortly after this respected government figures were accused of tax evasion. There have been widespread protests and demonstrations in Greece (below) against the government.

The idea is that all the cuts in Greece should improve the competitiveness of the nation and therefore have a positive knock on effect that would improve the current state of their economy. It is easy to understand why people in Greece struggle to comprehend this as this outcome looks so far away at the moment.

(Debt help bureau, 2011)

The graph shows how debt vs nominal GDP shot up. Results from 2010 onwards lead Greece to the problem that they now face. The main problem in the scenario is that Greece has, and STILL is, spending more than they receive. The graph shows how the problem began between 2006 and 2009. Spending from this point onwards spiralled out of control and the gap between revenue and expenditure became bigger.

Barton, Newell & Wilson (2003) suggest that there are five key factors as to how company managers can increase their chances of survival during a financial crisis.

1.            Understand and Maximize the Current Cash position

2.            Identify and Aggressively Minimise Operational Risk

3.            Scenario Planning

4.            Review and Prepare for Divestitures

5.            Maintain Confidence of Key Stakeholders

If managers in Greece had paid attention to such academia it may have been possible for them to avoid the scenario they currently find themselves in.

Wage rises and mortgage debts have increased immensely within the last ten years in a lot of European countries. Countries such as Greece have suffered as a result of this.  If Greece were to fall then what would happen to Ireland? If Ireland were to fall then what would happen in other European countries? This chain of events could severely affect many nations; we hope that the UK would not be one to be affected. The UK is not owed a lot of money from Greece in comparison to other European countries. However, any effects from the problems in Greece could affect Ireland and this could become a problem to the UK; Ireland owe a large amount of debt to the UK and could be effected if they cannot receive this back (Financial Times, 2012).

It is impossible to say for sure how events will eventually unfold in Greece as time will only tell. It does not look too promising at the moment though. It is time for Greece to attempt to stand on their own two feet again. If they are not able to do this in the foreseeable future then it may be unlikely that they have a future in the euro currency.

Sources used:

Barton, Newell & Wilson

BBC News

Debt help bureau

Financial Times

Guardian

Wall Street Journal



Did Virgin act appropriately?

It was recently announced that IAG had been successful in the purchase of BMI and that the purchase itself would not be reviewed by the Office of Fair Trading (BBC News, 2012). IAG, owned by British Airways, has gained fifty six more slots at Heathrow airport as a result of this deal; purchasing BMI from Lufthansa cost IAG a reported £172.5m (BBC News, 2011). Virgin have openly complained about this deal by suggesting that IAG will have too much of a dominance at Heathrow airport. Is the owner of Virgin, Richard Branson, right to complain about this matter or should he have just bit his lip and moved on?

Patterns in mergers and acquisitions (M&A) have occurred in recent decades. Lots of M&A took place in the UK at the back end of the 1980’s and throughout the 90’s. The country’s economic position was healthy at the time as progression was made in many industries. As the UK was in a successful era in the 90’s it meant that the risk of failure was seen as low. Events such as September 11 2011 and resulting wars in countries such as Afghanistan and Iraq lead to a general decrease in M&A.  Countries became more uncertain as to how situations would unveil from events such as these. Many people believe that there is a direct link between M&A and economic risk; these examples would suggest that those people are correct.  

It is possible for some companies to actually benefit from a decline in M&A. Investment prices tend to drop so it is therefore possible to purchase a business at a good price. Events themselves can actually work in the favour of some companies too. Virgin set up ‘Virgin Australia’ on 31 August 2000 with just one route from Brisbane to Sydney, two aircrafts and just 200 members of staff (Virgin Australia, 2012). M&A had slowed down between 2000 and 2002 due to the economic climate at the time. People frowned upon Richard Branson’s move, suggesting that it was the wrong time to be investing. However, in May 2001 leading Australian airline company ‘Qantas’ acquired rival company ‘Impulse’ whilst Australian airline company ‘Ansett’ collapsed later that year in September (Low Cost Airline News, 2012). Virgin effectively benefitted from these events, including the acquisition made by a competitor. Although Qantas became a more dominant force, Virgin Australia became the second largest airline company in Australia. There were fewer competitors in the market and this gave Virgin the opportunity that they needed in order to expand. Mr Branson did not complain about this at the time even though the Qantas purchase was very similar to the recent IAG purchase. He did not complain as he benefitted immensely from the situation. Maybe Mr Branson (pictured below) should think back to times like these and accept that he has been very fortunate in the past.

Mergers and acquisitions are usually thought of in the same way by many people. However, there is a slight difference between the two terms.  An acquisition occurs if a company invests into another and becomes the new owner (Financial Times, 2012). A merger is technically when two firms, of usually the same size, become one new company (Arnold, 2012). Companies such as Virgin have ultimate aims to lead their companies to success and gain market power, rather than sharing their dominance with any other party.

The fundamental principle of financial management is that any action made by a company should be done in order to increase shareholder wealth. If this is not the case then shareholders may begin to panic as they may not comprehend why the action has taken place. As the shareholder price of a company about to be bought in a M&A increases, the parent company lowers as shareholders are aware that there is usually not a lot of short term (Jensen and Ruback, 1983) or long term (Limmack, 2002) gains from these deals. Companies tend to pay over the odds for a merger under these circumstances and do not make the gains that they expected. The idea behind any merger is to create shareholder wealth but this tends not to be the outcome in most circumstances. Shareholders are now aware of this and that is why share prices of the involved companies can change so dramatically in these situations. Richard Branson will be well aware that IAG were attempting to increase their shareholder wealth with this recent purchase. It is unlikely that Mr Branson would have acted in a different manner had he been in charge of IAG.

M&A also takes place in order for a company to gain market power and to improve their current status.  Complaints were made by Virgin because they felt the IAG deal was unfair and that they may become a monopoly within this market. Virgin argues that this is the reason as to why they were unhappy with IAG even bidding for BMI, never mind purchasing. Some believe that Virgin was complaining about the IAG purchase because they knew in advance that they would not successful in their bid. Virgin and IAG were fighting against each other in order to buy BMI from Lufthansa (BBC News, 2011). Virgin was already threatening to complain about IAG before they even knew that they had won the bid.

It could have boiled down to jealousy. Richard Branson was not getting his own way and any form of failure is unusual for him. Some would argue that he has too much market share in some sectors that Virgin is involved in. Taking this into account, some may wonder whether he should continue to enter into different market sectors or not. He has more wealth than a lot of his rivals which gives him an immediate competitive advantage. He would have acted in the same manner if he was in the position of IAG.

I believe that Richard Branson and Virgin acted inappropriately on this occasion. Mr Branson had benefitted from such situations in the past and should be grateful for those occurrences. I can understand his frustrations but he is well known for seeing gaps in the market and filling those gaps to his own personal success. The economy is full of opportunities and I believe that this just happens to be one opportunity that Mr Branson unfortunately missed out on. Being more humble about this may have been the best way forward; therefore saving his energy for more worthwhile causes.

Sources used:

Arnold

BBC News

Financial Times

Jensen and Ruback

Limmack

Low Cost Airline News

Virgin Australia

Why has Wales gone backwards on Inward Investment?

Wales has recently suffered to attract investments from foreign companies, meaning that investment levels have fell behind many parts of the UK (BBC News, 2012). Attracting investment from other countries is important, but is not necessarily easy to achieve. Once investment has been achieved it is then hoped that these investment levels can be maintained and, if at all possible, increased.

(Financial Times, 2012)

International trade has increased dramatically since the 1950’s and countries around the world, including Wales, have become more reliant on these trades. Foreign Direct Investment (FDI) plays a significant role within international trade. FDI is “the purchase of physical assets, such as plant and equipment, in a foreign country, to be managed by the parent corporation (Moffett, Stonehill and Eliteman, 2012).

The amount of companies in Wales being purchased in FDI deals has dropped and this has obviously become a concern.  Many in Wales believe that this is due to poor promotion in recent years. A Welsh government spokesman stated "We need to showcase what we have to offer, the world certainly isn't going to come to us.” (BBC News, 2012). As many companies attempt to be successful in international trade it means that it actually becomes more difficult to achieve company goals. If Wales do not promote themselves in the right manner then it is most likely that a foreign company will invest elsewhere.

Recent trends in FDI activity show that global FDI flows rose to $1.24 trillion in 2010; this was still 15% below the 2007 average (UNCTAD, 2011). Experts suggest that the FDI flow figure will increase again to what it once was before. The main reason for this belief is because of the popularity of FDI. It is popular because it enables a company to become a multinational company or enterprise; by operating subsidiaries in a foreign country (Moffett et al, 2012). If a multinational company continues to grow in stature then then it can lead to large investments being made in the future. The top 10 multinational companies in 2005 possessed roughly $1.7 trillion in foreign assets between them (UNCTAD, 2007). This is a staggering amount of money and shows why these successful models are attempted to be replicated by many upcoming companies. If companies in Wales were able to attract the attention of large multinational companies such as these, through successful promotion, inward investment figures would quickly increase once again.

Developing countries can benefit from FDI as a host country; by receiving investment from foreign countries. Economic growth can certainly occur in developing countries if FDI’s are successful (Chen, 2000). A host country can benefit from employment opportunities and extra tax revenue from profits. It is also important for host countries to be aware that there are lots of possible problems that can occur. A good example of a potential problem is the possibility of corruption and conflict as a result of political issues. Maybe companies in Wales were put off reaching agreements with foreign countries as a result of these potential problems. For FDI to be seen as successful it needs to be beneficial for both parties involved. It is not acceptable for an investor to benefit, for the host to not benefit and vice versa. I believe that the positives of international trade outweigh the negative aspects. If company procedures are correct then the problems occurring become less likely. Problems tend to be more of a concern for host countries in developing countries in areas such as Africa and South America, rather than countries such as Wales.

It is important for companies to remember that it is possible to receive investments or make investments with neighbour countries. Crossing a border is seen as more appealing for some companies solely on the basis that fewer costs may be involved. It is also possible for a direct investment to be as successful this way. Maybe the answer for the short term recovery of inward investment in Wales is to initially receive investments from the UK rather than looking further abroad. A long term goal could be to look for foreign investment further afield, once stability in this sector has occurred.

It is important to put this all into context as Wales is not the only country that is currently suffering. High oil prices have hindered UK manufacturing sector output recently (BBC News, 2012). However the difference between these two scenarios is that England’s output problems were out of their control where as it is possible to blame Wales for their recent poor inward investment results.

I believe that it is possible for Wales to recover from this current predicament, in the short term and the long term. Major emerging areas such as South America have shown that the FDI flow can increase once again. Seeing how production is successful in the thriving UK areas and international companies will enable companies in Wales to understand if their production lines are similar. If they are not similar, then why is this? Money is still available for investment as multinational companies increase their amount of assets. It is vital that Wales promote their businesses with immediate effect. If successful, then the inward investments should arrive imminently.

Sources used:   

BBC News          Chen                                                                                                                                                                     Financial Times

Moffett, Stonehill and Eliteman 

UNCTAD (2007 & 2011)

Was Philipp Hildebrand frank about the Swiss Franc?

Currency plays a key role in the world economy and can affect the profits of organisations, particularly larger companies with a worldwide reputation. Currency can affect companies in different ways, either in a favourable or an adverse manner. The three main types of exposure that can affect a currency are:

• Transaction exposure – A company receives income or makes payments in a different currency to what they use within their own home country. The risk is that the domestic currency can be lower than expected or the cash payments made may be higher.


• Translation exposure – Companies report their financial position of foreign subsidiaries back to the currency of their parent company; affecting the company’s balance sheet and profit and loss account. The exposure does not reflect an actual cash loss unless dividends are being declared.

• Economic exposure – The trading position of the business is at risk due to adverse affects on the short and long term movements of exchange rates.

(Arnold, 2008)

Economic exposure can be classified into two separate definitions.

1. Direct Economic Exposure - Expected future income and payments are in foreign currency and have not yet been made.


2. Indirect economic exposure - Long term risks from adverse developments in the company’s home country can result in foreign competitors benefitting from exchange rate movements.
(Arnold, 2008)

The Swiss National Bank (SNB) conducts the country’s monetary policy as an independent central bank; the bank is there to act in the best interests of the country (SNB, 2012). Philipp Hildebrand, the chairman of the SNB, resigned with immediate effect on 09 January 2012 (BBC News, 2012). Philipp Hildebrand had come under scrutiny in recent months after some of his recent personal transactions have been questioned. Kashya Hildebrand, Philipp’s wife, exchanged Swiss Francs and bought $504,000 (£323,024) in August 2011, three weeks before the bank intervened to reduce the value of the Swiss Franc. She later sold these dollars to buy a property (BBC News 2012).Mr Hildebrand denied that he had any knowledge of these antics. People are now questioning whether Mr Hildebrand was aware of this. Was he actually fully aware of this situation and was he only considering his own benefits rather than Switzerland’s?

Graph 1

(Trading Economics, 2012)

Graph 2

(x-rates, 2012)

Graph 1 shows the sudden drop in the Swiss Franc in early August 2011. The affect of the currency dropping dramatically so suddenly will have affected lots of businesses worldwide. Every form of currency exposure will have occurred under different circumstances as a result of this event. Graph 2 shows the increase in US Dollars in comparison to Swiss Francs. It is clear that in August 2011 the value of the US Dollar increased immensely. The reason for the increase is from a direct result of the decrease in the Swiss Franc, as shown in graph 1.

Kashya Hildebrand, Philipp’s wife, was able to benefit from exchanging Swiss Francs for US Dollars before the Swiss Franc decreased in value. As a result of this, Kashya was able to receive more US Dollars in this exchange than she would have weeks later. A property was bought with these US Dollars, meaning that the property cost her less. As graph 2 shows, the Swiss Franc increased back to a similar price to July 2011.

One of the SNB’s primary objectives is to be aware of the country’s economic developments and declines (SNB, 2012). The idea is that if the bank is run correctly then economic growth will eventually occur. If Mr Hildebrand had followed these objectives thoroughly then it is possible that this situation would never have occurred. The Swiss Franc is ranked fifth in the global foreign exchange market turnover; behind the US Dollar, the Euro, The English Pound and the Japanese Yen (Retail FX, 2012).

I believe that Philipp Hildebrand was correct to resign from his current role at the SNB. There was a lot of attention brought to this story, following recent scrutinised events at national banks such as RBS and Barclays. Although Mr Hildebrand denies knowledge of his wife’s actions, many believe that he would have been aware of this. Others believe that he would have been the reason as to why his wife was able to attain these profits as he would have been aware of the upcoming effect on the Swiss Franc. Passing on this information to his wife would enable her to take advantage of the situation, like she did. I believe that Mr Hildebrand’s resignation speaks volumes and suggests that he may have been feeling the pressures from his own guilt. If a manager or director is more concerned about their own personal well being over the benefits of the company, then it is not possible for them to remain in their role.

Sources used: Arnold, BBC News, Retail FX, SNB, Trading Economics, x-rates

Could Greene King make investors blue?

Greene King is one of the UK’s leading pub retailers and brewers. It operates over 2,400 pubs and restaurants and runs two breweries. The company was established in 1799 and has been very successful in recent times.

Companies like this usually need some finance in order to be successful. There are two ways that are most common to companies to raise finance.  Money can be raised through equity or capital of the company. Money can also be raised through debt finance. Equity finance has been a popular option for companies for many years, whereas debt finance has only really come to fruition within the last 30 years.

Greene King has raised finance through their equity. The company has significantly high net debt and has done for many years. In 2008 the net debt was as high as £1,605m (Greene King, 2011). The majority of this net debt is made up of securitised debt. These are loans given to companies which are secured with their assets. Although these figures seem alarming, Greene King has taken this approach for years. The company no longer has any short term debt outstanding and some borrowings are not fully due until 2036 (Greene King, 2011).

Some people believe that companies should not be run in this manner but this approach is not uncommon within this particular industry. Greene King has high equity because of all the properties that have been acquired over the years. The company’s gearing ratio has been above 100% for a long time. This states that the company is highly geared; relying on borrowing for the majority of its capital.

Weighted average cost of capital (WACC) – is calculated by “weighting the cost of debt and equity in proportion to their contributions to the total capital of the firm” (Arnold, 2008). Companies use this figure to see how much interest is being paid on the money that it is financing. Realistic cash flows can be developed from this calculation; allowing the company to interpret whether acquisitions or mergers can be made. Greene King invests heavily in new acquisitions so it is important that these calculations are correct. The company would not want to place itself in a vulnerable position.

 Rooney Anand – Greene King Chief Executive

Greene King recently suggested that its half-yearly profits were higher than past years but the Chief Executive of the company, Rooney Anand, was quick to suggest that 2012 would be a tough year of trading for Greene King (BBC News, 2011). If this is the case, should Greene King continue to receive the majority of their borrowings in the way they do currently?

I believe that the answer is simply yes. Before the financial crisis it was simple for people in well established countries to borrow money to expand their businesses. Before the crisis, in the US, more than half of the country’s borrowings to companies were financed through asset-backed securities (Financial Times, 2011). Although the UK and the US are struggling more than in the past, it is still possible to have a business that is consistently successful and profitable. However, some companies can not necessarily be as successful without the funding. A company in this situation may not be able to progress or may even begin to struggle. Greene King does raise internal finance and therefore does not rely solely on external finance. It is very likely that the company would not be as successful as it is currently is without the borrowings that it receives.

Greene King maximise their shareholder value by “maintaining a strong credit rating and a core level of debt which optimises the weighted average cost of capital (WACC) and shareholder value” (Greene King, 2011).  This statement shows that the company are aware of the potential implications from their current net debt. It also shows that they take WACC into account in order to be as successful as they are. The debt is actually maintained to a level that benefits the WACC.

Greene King has operated in this manner for a long time. The company has been successful under this business plan and has not shown any ill effects from recent obstacles such as the smoking ban and declining property prices. The company is seen as being volatile due to the level of net debt and high gearing. However, the securitised debt is currently under control and is not affecting the progression of the company. Greene King is also classed as being a stable company through their annual credit score and rating (FAME, 2012).

Businesses such as Peacocks have been recently unsuccessful but this does not mean that all companies will follow in their footsteps. It is unfair for all companies to be tarred with the same brush but it is inevitable that the general public become concerned when well known companies begin to fail. Greene King has not had too much public attention in comparison as their business model has been successful.  I believe that if larger companies were given time and co-operation from their lenders then it may be possible for them to replicate these successful results.

 

Sources used – G Arnold, BBC News, FAME, Financial Times

Will Apple Inc. remain this successful?

The New York Stock Exchange (NYSE) contends with billions of dollars of turnover on a regular basis. It is the biggest in terms of domestic share exchanges. The main reason behind this is because the domestic companies they deal with are huge.

One of these companies is Apple Inc. The graph below shows just how big Apple is, as their share price reached a new high of $497.50 on 10/02/2012.

(Yahoo Finance, 2012)

The graph shows the share price of the company for as early as 1985; when an individual share could be purchased for less than $4. Share price remained at this level until the millennium, which is when the iMac became a familiar product. After a small dip in share price, Apple recovered sensationally. By 2005, share price had increased to over $70 per share (Yahoo Finance, 2012). The success of the iPod played a big role in this, along with Apple stores opening worldwide.

Technological companies are paramount to the success of such stock markets. In the NYSE they represent 20% of the market (Financial Times, 2012). Apple is now the largest US company by market capitalisation (FactSet, 2012). This shows how successful Apple is in relation to Market Efficiency.

It is argued by many that the success of the company would not have been so vast without the leadership skills of Steve Jobs (above). Mr Jobs lead the company with imagination and creativity, along with business nous. On 05/10/2011 Mr Jobs passed away, leaving other individuals to keep Apple at the top. Initially, the share price fell after this news was broke. However, the share price did not fall dramatically and did recover quickly. This shows that investors have faith in the company in itself, rather than just one person who was leading the operations.

Since December 2008 the company share price has been on a meteoritic rise, but will this bubble burst? Competitors such as Lenovo, the 2^nd largest makers of pcs, have produced a 54% increase in profits (BBC News, 2012). Will Apple see this as a threat?  Well if Lenovo follow in the footsteps of HTC then no. HTC had produced an increase in profits BUT announced that recent sales have been poor due to their competitors success, such as Apple (BBC News, 2012)

John Browett was appointed by Apple in February 2012, as Senior Vice President of Retail (The Guardian, 2012). It is reported that his wages have increased significantly. Is this an action that will help Apple remain top of the market and as powerful as they currently are? There is the potential that Mr Browett may be motivated by this new challenge. However, there is also the concern that he is there solely on the basis of money and that this alone will not help Apple. There is a lot of pressure at management level; with the possibility of people such as Chief Executive Tim Cook coming under scrutiny if the business begins to crumble. If results do not remain high then senior figures such as this will surely be blamed. If the company does begin to dip, will these individuals act in a “rational” or “normal” manner; will they act in the way of a utilitarian or would another approach be taken (Statman, 1999). I am sure that they hope this scenario never occurs.

Does share price remain high due to their reputation?

When I think of Apple, the initial words that spring to my mind are ‘innovation’ and ‘reputation’. This is what the company has been built upon, particularly in the last twenty years. RIM (Blackberry) were known as the ‘innovators’ of the smart phone market within recent history. However, technology quickly changed and RIM struggled to cope with that demand.

Apple currently benefit from an anticipatory price movement in share price when new products are announced. This is because the demand for all those products is so high; so investors become optimistic that the share price will increase further because of these past trends. It will be interesting to see how Apple now cope without jobs steering the ship and whether that optimism remains with potential investors.

Sources used: BBC News, FactSet, Financial Times, The Guardian , Yahoo Finance

Will Hester's actions have an impact on the shareholders?

Mr Stephen Hester, the current Chief Executive at Royal Bank of Scotland (RBS) recently turned down an annual bonus of 3.6 million shares. These shares were valued at almost £1,000,000, putting the value of the shares into perspective. (The Wall Street Journal, 2012). Hester was arguably forced into this position as a result of public demand. It has to be questioned as to whether this was the correct decision and whether shareholders will benefit from this.

Hester became Chief Executive at RBS in November 2008, replacing Fred Goodwin. He was brought in to restructure the bank after it suffered severely from the economic crisis and from bad management. The bank was eventually bailed out by the Government, who purchased 83% of the company’s shares (BBC News, 2011). Fred Goodwin was referred to as ‘Sir’ Fred until this month. He had his knighthood taken away from him as a result of his actions when at the helm of RBS. Martin Dickson (2012) believes that Goodwin did make bad decisions but "he was hardly alone in causing the credit crunch".

Chief Executives are heavily scrutinised, particularly in the UK and the US. It can be argued that they are easy targets and that if a company’s share price falls, it is due to a collective performance rather than just one individual.

Hester is paid an annual salary of £1.2million, which most would argue is enough in itself. However Hester’s bonus is decided by a board of directors rather than by himself. So he can not necessarily be blamed for the size of this bonus. It also has to be mentioned that Hester was in a good job before accepting his current role. It is generally agreed that he has performed well at RBS under the circumstances; this should be commended. There were rumours of Hester and his staff quitting their roles over this debacle, but this never came to fruition. It should be noted that these were only rumours and that Hester never suggested that this could happen.

In Heston’s tenure he has delivered good results and arguably over achieved. To receive his bonus, he is evaluated on five categories:

1. Strategic direction
2. Financial performance
3. Stakeholders and lending
4. Risk and control
5. Capability and development

(Financial Times, 2012)

If Hester did well on these targets then why should he not be rewarded? £1 million as a ratio of RBS’s profit is relatively insignificant and maybe this should be taken into account rather than just taking the actual figure into consideration.

Some would argue that the Prime Minister David Cameron is to blame for this bonus. He agreed to the bonus as it was under £1million; this decision was heavily criticized by his opposite number, Ed Miliband (Financial Times, 2012).

Hester received £6.5m in bonuses in 2010 (Daily Mail, 2011). This alone would suggest that that the £1 million bonus offered this year was not needed. Excess and greed is not appreciated by the general public. The public are technically majority shareholders of this company so their voice should be heard, and in this case, it has been. In comparison to Bob Diamond, CEO of Barclays, his bonuses seem very small. However Barclays are in a much more stable position as a company than RBS currently are. Therefore they would argue that they are in a position to offer higher bonuses.

RBS Share price has been below the FTSE 100 since the end of 2009 (Thomson Reuters Datastream). This suggests that shareholder value has not been achieved since this time onwards. Once the circumstances of the company are taken into account then it becomes clear why.

Some suggest that there should be a closer link between the performance of a company’s share price and its chief executive’s bonus. Under these circumstances, if shareholder wealth maximisation was being achieved then the person who enabled this achievement could be rewarded for their efforts appropriately. It should be remembered that shareholder wealth maximisation is different to profit maximisation and that it is also seen as the better option to judge a company’s overall performance.

Jensen (2010) suggests that an ‘enlightened approach’ to value maximisation is something that should be considered by organisations. This is when the need to acknowledge stakeholders is appreciated but to not feel indebted to them at all times. If RBS were more transparent then they would probably gain more trust and confidence from the public.

Value management suggests that the following five methods are used to increase company value:

Increase returns on existing capital

1. Increase returns on existing capitals
2. Raise investment in positive spread business units
3. Divesting from assets
4. Extending the planning horizon
5. Lower the required rate of return

RBS can use these techniques to stabilise the company in the short term and to re-establish the company in the long term. The directors of RBS would argue that management value was taken into account when Hester's bonus categories were set.

In conclusion, I believe that Hester’s performance should be evaluated on the performance of RBS rather than a potential bonus. His job is one of the toughest jobs in the world which many would not be able to cope with. I believe that this is not truly taken into account and that Hester is an easy target. There is the belief that Hester could drop his standards as a result of not receiving his bonus. If this is the case then RBS could seriously suffer as a result. If RBS were to suffer then the UK’s economy would also suffer. It has to be remembered that 83% of the company's shares are owned by the Government and therefore it is paramount that the company recovers and that the share price increases in order for the country to benefit.

Annual bonuses should not necessarily be scrapped. However, they should be re-evaluated by most companies. If shareholder wealth maximisation is being achieved then reasonable bonuses could be offered.