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MISSION: PROFITABLE MISSION: PROFITABLE Presentation April 30 th, 2003 Emerging Financial Markets Professor JianPing Mei APAAC A ditya Dugar P avel Nazarov.

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Presentation on theme: "MISSION: PROFITABLE MISSION: PROFITABLE Presentation April 30 th, 2003 Emerging Financial Markets Professor JianPing Mei APAAC A ditya Dugar P avel Nazarov."— Presentation transcript:



3 Presentation April 30 th, 2003 Emerging Financial Markets Professor JianPing Mei APAAC A ditya Dugar P avel Nazarov A lex Reznik A lex Shaoulpour C hristine Nilsson

4 AGENDA RussiaFactoring ValuationOpportunity

5 Russia Macroeconomic Outlook Political Environment Social Conditions Legal Framework



8 INFLATION AND LABOUR COSTS Source: CBR Consumer Price Change Percentage Labor costs USD per hour APAAC

9 CURRENT POLITICAL ENVIRONMENT Mr. Yeltsin becomes the 1st President of Russia. New Constitution and democratic parliament are adopted —1999 Political Instability, Rapid Succession of cabinets March 2000 Mr. Putin wins election 53% of vote 9/11 drastic change in foreign policy towards Western direction Russian financial crisis APAAC

10 POLITICAL ACCOMPLISHMENTS AND CHALLENGES AHEAD AccomplishmentsAccomplishmentsChallengesChallenges Economic growth Declining inflation Foreign debt repayment Unification of Federal and Regional laws Tax reform Judiciary reform Labor law reform Land reform Social security reform Exclusion from FATF ‘black list’ Reduction of dependency of Russian economy on natural resources War in Chechnya Development of vast and strong middle class Elimination of Red Tape APAAC

11 SOCIAL CONDITIONS Increase in poverty level since to 37% of the entire population Corruption: 2.1 on a scale 1 (highly corrupt) to 10 (highly clean) Transparency International Since 1999 increased level of law enforcement, elimination of tedious licensing and registration procedures; tax reform Low level of trust in the banking system Need of Court reform APAAC

12 LEGAL FRAMEWORK Civil Code In line with Western standards Enforcement is lacking Federal Law on ‘Banks and Banking Operations’ Operating framework Federal Law on ‘Financial Securities Market’ Specifics on debt instruments

13 Rates on short-term credits extended by Russian credit institutions (adjusted for inflation) Corporate borrowers Individual borrowers Source: CBR AVERAGE RUSSIAN CREDIT RATES APAAC

14 Russia Valuation Factoring Principle of factoring Implementation in Russian Market Opportunity

15 FACTORING What is factoring? Financial management service designed to help firms better manage their receivables by offloading a firm’s receivables and credit management onto someone else How does factoring work? 1)Factor collect the accounts on the due dates 2)Effects payment to its client firm 3)Factor assumes the credit risk associated with collection for a fee APAAC

16 PROS AND CONS DisadvantagesDisadvantages AdvantagesAdvantages Cash Flows improved due to quicker payments and available for reinvestment Can focus on growth as reduction in overhead costs by transferring troublesome chore of collection Factoring can be expensive Perceived as option of last resort Factor contacts your customers and may damage ongoing relationships APAAC

17 RUSSIAN CREDIT MARKET — HISTORY AND PROBLEMS Commercial banking emerged in Russia in the late 1980s Russia had more than 2,500 banks by 1994 Devaluation of the Ruble in 1997—1998 forced many banks into bankruptcy In mid 2002 Russia had just under 2,000 registered banks and credit organizations Industry dominated by a few large players Main problems The banking sector has failed to fulfill its main function to act as an intermediary Lack of transparency Lack of legal framework Banks are not willing to expand their credit card services to the middle class APAAC

18 DEMAND ANALYSIS Increased level of lending by financial institutions, domestic investors and FDI since 1998 Companies require advance payment terms or letters of credit High portion of transactions are conducted on a non-cash basis

19 DEMAND ANALYSIS 12/31/ /31/ /30/2002 $ million 247% increase103% increase126% increase

20 INTEREST RATES APAAC January 2001 January 2002 Interest rates on Personal loans Percentage Interest rates on Corporate loans Percentage

21 POTENTIAL AND EXISTING COMPETITION Limited choices between three types of banks: – Foreign-owned subsidiary – State-owned Russian bank – Variety of Russian private commercial banks Russian Private Commercial Banks are an aggressive component but still have a limited capacity to provide services –Top 5 include: Gazprom Bank, National Reserve Bank, Sobinbank, MDM Bank, Bank of Moscow APAAC Existing competition Potential competition

22 BARRIERS TO ENTRY IN THE RUSSIAN MARKET 1.Not many regulations to protect either party 2.Corruption is wide-spread and deeply rooted Serious obstacle for private sector growth —In 2002, Russian Corporations allocated an estimate of $60 billion towards bribes Few alternative solutions to Cash Flow Problems Industry financing Banks or Corporations APAAC

23 Opportunity Fulfilling a need Deal economics Russia Valuation Factoring

24 Truckers’ clients are faced with cash flow problems – prefer to delay payments Few trucking companies agree to accept A/R ― Drivers are instructed to stay until payment is received ― Such collection practice is detrimental to the business A/R that are on the books = uncollectible debt Shadow accounting FACTORING SERVICES TO THE TRANSPORTATION INDUSTRY APAAC

25 Capitalize on the unrealized existing need for factoring services No current market for factoring services, because nobody targets the transportation industry By offering the factoring services we will create the market OPPORTUNITY APAAC

26 THE STRATEGY Merchandise $30K - $100K Provide factoring services to the transportation companies and use the established connections to gain access to the trade transactions that the transportation companies service Access to the buyers and sellers will open an opportunity to offer factoring and purchase order financing services for large trade transactions Buyer Seller APAAC

27 DEAL ECONOMICS — WITHOUT 3 RD PARTY BUYER Buyer Transport CoSeller goodsservice M2M1 APAAC Inc. M1 – f 2 M2 – f 1 Net: f 1 + f 2 M2M1 Factoring – with partial collateral

28 DEAL ECONOMICS — WITH 3 RD PARTY BUYER Buyer (Wholesaler) Transport Co 3rd Party (Retailer) Seller M3goods M1 goodsservices M2 APAAC Inc. M1 M2 M1+f 1 M2 – f 2 Net: f 1 + f 2 M3 > M1 + M2 Factoring and purchase order financing – with collateral M1

29 BUSINESS RISKS Collection and contract enforcement Forced litigation to prevent or recover losses Fraudulent actions towards APAAC Shadow economy – lack of transparency Unexpectedly large number of bad debts (>30%) APAAC

30 MITIGATION OF BUSINESS RISKS Extensive due diligence — Use experienced lawyers and law enforcement officers Work only with ASMAP members (Association of International Transporters) Cooperation with law enforcement agencies Deal collateralization Build long-lasting relationships APAAC

31 Valuation Assumptions Cash Flows Cost of Capital Sensitivity Analysis Russia Factoring Opportunity

32 ASSUMPTIONS Our Cash Flows are the same as Net Income as We are all equity financed (no interest) Our CAPEX is immaterial as it will only consist of office equipment and other supplies We have no depreciation expense due to the absence of capital assets Other Assumptions Our non-cash working capital is assumed to be stable in the short and medium term Our terminal growth rate is assumed to be 10% APAAC

33 VALUATION — METHOD USED Benefits of DCF It incorporates all of the relevant cash flows Easy to use Easy to amend if the macro or micro environment changes Drawback — does not include the value of real options Drawbacks of other methods Option valuation — difficult to use, not accepted Comparables — not available due to lack of public companies in this line of business Discount rate Risk free rate* Risk premium20% 12% 8% * MinFin (2030 Eurobond rate) APAAC

34 PROCEEDS FROM FINANCING OF TRANSPORTATION SERVICES APAAC 15% 20% 25% 30% ~25% growth (decreasing percentage)

35 PROCEEDS FROM MERCHANDISE FINANCING APAAC 12% 17% 20% 4% growth (decreasing percentage)

36 DCF VALUATION Net Income Transportation Merchandising Total NI Cash Flows TV ,762 1,081,080 1,204, , , , ,061 2,287,467 2,551, ,880 3,002,300 3,343,181 44,174, ,366 1,797,296 2,016,662 Present value of APAAC Inc’s NICF with 20% discount rate $17,434,979 $17,434,979 APAAC

37 RECEIVABLE FINANCING NEED DURING FIRST YEAR Total funds required $7.7 million APAAC Working capital Transportation industry Merchandising financing Start-up costs $7.4 million $2.4 million $5.0 million $0.3 million

38 POTENTIAL EXIT STRATEGIES AND TERMINAL VALUE Attractive target for larger financial institution eg, NIKoil, Sberbank – Strong customer base – Foothold in growing market APAAC Value of option to close operations anytime – 60 day credit period Need working capital for factoring services – Initial capital raised not a sunk cost (most should be recovered) but must be discounted from exit date

39 DCF VALUATION REVISITED Net Income Transportation Merchandising Total NI Cash Flows TV ,762 1,081,080 1,204, , , , ,061 2,287,467 2,551, ,880 3,002,300 3,343,18144,174, ,366 1,797,296 2,016,662 Which equals an IRR of 44% 44% Present value of APAAC Inc’s NICF with 20% discount rate $12,213,224 $12,213,224 APAAC

40 SENSITIVITY ANALYSIS The sensitivity analysis shows the range of firm values depending on pessimistic, average and optimistic scenarios The most reasonable range of values is between the growth rates of 8%—12 % and the discount rates of 18%—24% APAAC Discount rate 18% 20% 22% 24% Growth rate 6%10%12% 11,138,21217,227,10823,316,005 8% 13,573,771 8,374,51212,213,22415,572,0979,973,975 6,336,6908,913,71910,975,3437,441,131 4,778,8356,588,9707,946,5715,570,769



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