Strategic Analysis of Power Corporation of Canada

Worldwide Power:

A Strategic Analysis of Power Corporation of Canada


EXECUTIVE SUMMARY 2
2.1 HISTORY 3
2.2 STRATEGIC GOALS 3
2.3 ORGANIZATION CHART 3
EXTERNAL ANALYSIS 4
3.1 THE GENERAL ENVIRONMENT 4
Global 4
Demographic 4
Political/Legal 4
Economic 4
Socio-cultural 5
Technological 5
3.2 THE INSURANCE INDUSTRY 5
3.4 TURNING THREATS INTO OPPORTUNITIES 7
INTERNAL ANALYSIS 7
4.1 VALUE CHAIN ANALYSIS 7
PRIMARY ACTIVITIES 7
4.2 FINANCIAL RATIOS 7
4.3 TURNING WEAKNESSES INTO STRENGTHS 8
STRATEGY FORMULATION 8
5.1 KEY ISSUES 8
6.2 DECISION CRITERIA 9
RECOMMENDATION 10
IMPLEMENTATION 10
POWER CORPORATION OF CANADA - ORGANIZATION CHART 11


Context
2.1 History
Power Corporation of Canada (Power), Canada’s fourth largest company in revenues , was founded on a vision. In 1925, facing foreign takeover threats from the U.S. in the Canadian electric industry, two Montreal under writers – A.J. Nesbitt and P.A. Thomson – took action to protect Canadian power utilities. They established Power Corporation of Canada, a holding group that would consolidate Canadian power companies under an umbrella organization. Over the years, Power began picking up considerable interests in power utilities across Canada and expanded globally with interests in the United States, Brazil, and China. Throughout the 1950s and ‘60s, Power was deeply hit by a trend of nationalized energy and diversified into other industries such as pulp and paper and finance. In 1968, Paul Desmarais joined the company in a merger and would be Power’s CEO until 1996. This would be the beginning of Power’s strategy to hold large, concentrated investments in a diverse portfolio and to leverage their managerial capital. During Desmarais’ tenure, Power’s corporate assets have increased by over 1500% (C$165 million to C$2.7 billion) and net earnings have grown by 6500% (C$3 million to C$200 million) .

2.2 Strategic Goals
Power has always been characterized by strong and consistent leadership. The company has operated under a romantic view that the leader is critical in shaping an organization to achieve success. Thus, strategic goals are critically important in communicating the message down the hierarchy from vision to mission to objectives. Power is built around a well-defined vision based on its core values of a corporate family.
Power has stated its mission as “enhancing shareholder value through the active management of long-term investments and responsible corporate citizenship”. This mission is outlined with the strategic objective to minimize risk by diversifying across sectors and geographic segments .

2.3 Organization Chart
Power’s principal asset is its 66.4% holding in Power Financial Corporation (Power Financial) which controls Great-West Lifeco Inc. and IGM Financial Inc. Through Power Financial, Power controls a deep network of wholly-owned subsidiaries offering insurance and wealth management across Canada, in the northern United States, and in European nations such as Germany and the United Kingdom. Power remaining portfolio includes seven daily newspapers in Ontario and Quebec, magazines, and websites operated by Gesca Limitée (Gesca) and investments in global technology companies and funds through Power Technology Investment Corporation (Refer to Appendix 1).

External Analysis
3.1 The General Environment
Global
In recent years, market shocks around the world have demonstrated the vast international linkages that are shared between economies. The Asian Financial Crisis of 1997 saw the stock markets across Southeast Asia in near synchronization. The ongoing worldwide slowdown can be attributed back to rotten mortgages in the United States. Multinational corporations now need to be aware of geographic vulnerabilities in a world of free capital mobility. The failure of one foreign subsidiary affects the corporation’s balance sheet as a whole and puts a crunch on other owned subsidiaries around the world.

Demographic
The effects of the baby boom generation are starting to show however the coming years could bring a major demographic shift. In the 2006 Canadian census, 49.5% of Canadians were above the age of 40. That implies almost half of the country will be retired in 20 years. The demographic required to replace the baby boomers in 20 years, age 0-24, represents only 30.9% of Canada and is not sufficient enough to cover the major labour outflow. Considering that Canada has a positive net migration rate (more people are leaving the country than arriving), there could be a major worker shortage in the coming years. This factor affects the insurance industry because the sales of insurance policies will not be enough to cover the increasing insurance claims and payments that will result in an aging population .

Political/Legal
The 2009 Canadian federal budget, which is currently in legislature, proposed a broad stimulus of cash across several sectors. Through the Extraordinary Financing Framework, $200 billion will be injected into the economy to ease credit markets and loosen liquidity. For Canadian insurers, the Canadian Life Assurance Facility was created to level Canadian insurers with foreign competitors who have received government protection through guaranteed programs. The 2009 budget also plans to repeal Section 18.2 of the Income Tax Act, which will allow Canadian multinational companies to deduct interest earned for certain investments in foreign subsidiaries . These measures, along with the various tax cuts and positive externalities from the budget proposals should be very beneficial to Canadian firms, particularly the multinationals.

Economic
Economists are mixed on forecasts for growth in Canada in 2009. The most optimistic outlook has the Canadian economy posting modest growth by the 3rd quarter. Nevertheless, the worldwide economic slowdown has left damaged balance sheets and cash flows in its wake, the effects of which shall be seen as companies release their 2008 annual reports.

Socio-cultural
Most Canadians are automatically covered by insurance through their family or work. The ability to sell extra packages or gain new customers is hindered by the different propensities to save among culture groups. For example, Chinese citizens typical have higher savings rates than western nations. In Canada, South Asians are the largest visible minority with a population of 1.23 million followed by Chinese at 1.16 million and Black at 0.78 million. These visible minorities are primarily situation in urban centres along the border. These cities continue to diversify culturally and understanding differences in culture translates to success in those vast markets.

Technological
Rapid advancement in processing speed of computers is making world a small place. Internet, telephone, and faxes have created a 24-hour global market where at any point in time, shares are bought and sold somewhere in the world. For a company that invests most of its income, this is a crucial factor for Power. In a changing landscape, the latest technologies may be an easy source of competitive advantage.

3.2 The Insurance Industry
The Canadian insurance market was valued at $95.6 billion in 2007. Non-life insurance such as health and property insurance comprised 56.7% of the market’s value. The remaining 43.4% represents life insurance premiums. The 5-year compound annual industry growth (measured 2001-2006) was 5%.

Porter Five Forces

The Threat of New Entrants
There are few barriers to entering the Canadian insurance industry however the market is highly mature and competitive. At 117 firms, a few companies have gained significant market share while the rest have found profitable niches. The market is increasingly complex and requires experienced management and personnel. There is the potential for other financial service providers such as commercial banks and mutual funds to offer insurance.

The Bargaining Power of Buyers
In the insurance industry, the buyers are known as policy holders. Policy holders vary between individual and group consumers. There are many policy holders relative to insurance companies which weakens the buying power. Furthermore, policies are locked into term contracts so the buyer is restricted from switching. Policies that allow “exceptions” usually require high enough costs to disincentive the buyer from switching. While insurance is not an essential need, many businesses involved with risk require insurance policies to function. However, since group policies can include thousands of individual policies, businesses have a little more buying power than individuals.

The Bargaining Power of Suppliers
The suppliers of Canadian insurers are makers of financial computer software and IT service. The market for computer systems is dominated by major firms such as IBM, adding to supplier power. There is little threat of vertical integration because insurance companies do not have the resources and personnel to develop and maintain computer software in-house. However, insurance companies can outsource certain back-office tasks, decreasing the supplier’s demand.

The Threat of Substitute Products or Services
There are no pure substitutes that offer the same features as an insurance policy. Buyers can invest in other savings options however they do not offer the same guaranteed protection that insurance does.

The Competitive Rivalry
There are three main Canadian insurance companies: ING Groep, Sun Life Financial Inc., and Power’ Great-West Lifeco Inc. Alongside these companies, are many smaller firms both domestic and international. Insurers’ assets are protected by regulations creating high exit barriers. With a large threat of new entrants and high exit barriers, the competitive rivalry intensifies as struggling companies continue operating .

3.4 Turning Threats into Opportunities
It is essential for managers to analyze the external environment looking for threats and opportunities. That alone, however, does not guarantee success. Threats should be identified and developed into opportunities. Current opportunities should be capitalized on now to support further opportunities. There is a worldwide economic slowdown. Credit markets are down as are asset prices. While this may be threatening, it is also a rare opportunity. Companies are undervalued during this recession and can be bought for cheap. In years past, government has been actively regulating the financial industry. The very same regulations that people complained about in the past were now being lauded for saving Canadian banks from crashing. Government regulation has help insurance companies with the double taxation of income trusts. Income trusts were a savings vehicle that could be considered a competitor to insurance policies. The double taxation law that was passed makes them less attractive as investments.

Internal Analysis
4.1 Value Chain Analysis
Primary Activities
Inbound Logistics: Financial computer software is purchased from suppliers. Training and maintenance may be required constantly.
Operations: Premium income is invested in financial markets. Financial software and expert analysts help generate returns on the invested income.
Outbound Logistics: Insurance policies are offered at providers of financial services such as commercial banks and wealth managers or physical branches can offer the entire product line.
Marketing and Sales: Online and phone distribution channels lead consumers to physical agents. Wide product range. Aiming for focus on customer service and quick response.

4.2 Financial Ratios
Although Power holds companies in many sectors, the bulk of its income is from its insurance subsidiaries. Thus, when analyzing Power’s financial ratios, it is helpful to view Power as an insurance company. The most important financial statement for an insurance company is the balance sheet. Great-West has important liabilities to its policyholders and it is critical to be able to cover those obligations. The current ratio can determine if Power is too leveraged to handle these obligations. Power has a debt/equity ratio of 0.78 which is well below the industry average of 1.41. Power also has a below industry average leverage ratio, showing that it is well positioned for the current credit crunch. Power’s return ratios are generally better than the industry average however trail competitor Sun Life on return on assets and return on equity. The most concerning ratio is the -32.1% drop in sales from the same time last year. However, Power’s two main competitors, ING and Sun Life, also saw 30% drops in sales. From these ratios, it is clear that Power has been hit by a slowdown in demand across the insurance industry. Since Power has strong leverage and liquidity ratios, it is capable of weathering the storm until sales start growing.

4.3 Turning Weaknesses into Strengths
The organizational chart shows that almost all of Power’s subsidiaries are in the business of insurance. Aside from holdings in Gesca and Pargesa, these insurance subsidiaries are also all based in Canada. These are weaknesses that need to be developed into strengths. Power has an excellent distribution network in Canada and can ented it into the United States. Power also has fresh new investments in China to make it a truly global company. These initiatives are being led by Paul Desmarais Jr., the son of former CEO Paul Desmarais. Strong and consistent leadership is an important value proposition for Power.

Strategy Formulation
5.1 Key Issues
As a holding company, Power is faced with issues of creating value for its subsidiaries.

Diversification
The current economic climate is full of under-valued assets. Given Power’s strong financial position and the extra credit available from the Extraordinary Financing Framework, an acquisition could be a good option for expansion. With an expansion, there arises the question of where and how much. For simplicity sake, the alternatives for expansion are: no expansion, related diversification, unrelated diversification. With related diversification, Power would expand into more insurance companies in North America. Power could capitalize on synergies between sales forces, brand names, and product offerings. An unrelated diversification spreads the vulnerability that Power has to the insurance industry. Power can still create synergies through shared support activities and talent pooling.

Sagging Subsidiary Profits
On October 11, 2008 both Great-West Lifeco and IGM Financial recorded lower quarterly profits. In total, earnings from subsidiaries decreased from $338 million in 2007 to $293 million. Power also received lower earnings from its operations in China through the Power Technology Investment Corporation. Given the strategy of cutting assets and focusing on major investments, Power may look to sell underperforming assets to free up capital. The alternatives are to keep all current subsidiaries, sell insurance subsidiaries, or sell other subsidiaries. Selling insurance subsidiaries would mean less focus on Power’s core business. Power may be too invested in insurance with subsidiaries cannibalizing each other’s sales. Power’s other subsidiaries include interests in television, newspapers, energy, and wines and spirits. Selling these assets will also bring the benefit of extra capital to spend on other investments.

International Expansion
Power’s international portfolio includes Gesca and Power Technology which are concentrated in Europe and China respectively but Power Financial is still based in North America. Power has had a long history of investment in China and Paul Desmarais has influential connections throughout Europe. These would be the two ideal locations for an international expansion of Power Financial. Power Financial already owns Pargesa Holding S.A. which owns major European energy, minerals, and building materials companies. Power Financial could benefit from this market presence by offering a line of insurance policies through a subsidiary.

6.2 Decision Criteria
At the 1999 annual meeting, Paul Desmarais Jr. defined the principles that would guide Power into the new millennium. He reiterated the mission to enhance shareholder value and to focus on companies that had the long-term potential to dominate their markets. This value must be sustainable in the long-term. To do so, companies need to have strong balance sheets to be able to grow autonomously.

Enhances
shareholder value Long-term
sustainability of profits Maintain healthy balance sheet Potential to dominate industry
Related Diversification Y Y Y Y
Unrelated Diversification Y N N Y
No change N N Y N
Sell insurance subsidiaries N N Y N
Sell other subsidiaries Y N Y Y
Expand to Europe Y Y N N
Expand to China Y Y N N

Recommendation
The only alternative that satisfies each of the decision criteria is for related diversification. By choosing to diversify though, Power is also implicitly deciding not to sell any current subsidiaries. An international expansion is not recommended because of the ramifications on the balance sheet and the lack of potential to dominate those markets. International expansions are very costly and would add more liabilities in the short-run. Furthermore, the insurance markets in Europe and China are already developed with their own respective barriers of entry. Therefore, the related diversification would have to occur in North America. In Canada, Power is already a leading insurer through Great-West and London Life but Power’s interests south of the border are less developed. The recommendation is to acquire a controlling interest (all shares if possible) of an insurance company in the United States.

Implementation
Analysts will search the American insurance industry for undervalued assets. Amidst the collapse of AIG, a lack of confidence in American insurance firms has dropped their value. Power should look for cheap companies that possess strong balance sheets such as those exhibiting low price-to-book ratios. Once a suitable company has been found, Power will offer a friendly takeover by buying the company’s shares. If a deal cannot be reached, alternative companies will be approached. Once assuming control of the American firm, expert management will be assigned to oversee the integration of the new company. In the short-term, support activities can be consolidated as well as marketing and sales functions. Over the long-term, the subsidiary will be left with a healthy balance sheet and autonomous control. During the integration, constant reports of financial statements and synergies created will be prepared and evaluated by managers.

Appendices

Power Corporation of Canada - Organization Chart











Drivers of Supplier Power in Canadian Insurance Industry, 2007


Factors of Threat of New Entrants in Canadian Insurance Industry, 2007


Factors of the Threat of Substitutes in Canadian Insurance Industry, 2007



Factors of the Degree of Rivalry in the Canadian Insurance Industry, 2007


Selected Financial Ratios for Power and its Competitors
Power Corporation ING Groep Sun Life Financial Industry
Debt/Equity Ratio 0.78 5.05 0.76 1.41
Leverage Ratio 13.9 48.7 3.9 14.2
Return on Equity 14.8 -0.5 28.9 12.3
Return on Assets 2.2 0 6.6 2.2
Sales (qtr vs. qtr last year) -32.10 -31.10 -30.6 -21.10

SWOT Analysis
Strengths
- diversified portfolio
- experienced leadership
- high brand recognition and goodwill
- well-connected and global executives
Weaknesses
- too exposed to insurance market
- lack of strength out side of canada
Opportunities
- under-valued assets
- government stimulus
- double-taxation of income trusts Threats
- excessive regulation of financial industry
- state-owned competitors
- credit crunch
- market volatility in wealth management industry
- accusations of political interests

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CASE STUDY: Wal-Mart in China

Wal-Mart Stores: Everyday Low Prices in China

Summary: (Taken From Harvard's site)
Although Wal-Mart, the world's largest company by revenue, was into its 9th year of operations in China, its stores were still losing money. It had created a miracle in the U.S. retail industry by revolutionizing the sector's business model and successfully implementing its model through innovative practices that enabled it to sell national brands at "Every Day Low Prices". The challenge Wal-Mart faced was whether it could transport its successful model to win in a market with many differing characteristics which threatened its low-cost structure and which could nullify its competitive advantage. Concerned with the application of established domestic business models in international expansion. Also sheds light on other globalization issues such as market entry strategy, localization vs. standardization, the effect of regulation changes on the competitive landscape, and firm performance.

Learning Objective: (Taken From Harvard's site)
To address competitive advantage and its sources (differentiation and cost leadership); debate standardization and localization in international expansion and strategy formation--the fit between firm strategies and external environments; provide students with a basic understanding of the concept of competitive advantage and its sources through a discussion of Wal-Mart's success in the U.S.; discuss the challenges of replicating a successful domestic strategy in a different market environment; explore whether a firm is able to transport its competitive advantage from one market to another using the example of Wal-Mart's entry into China; and think about potential strategies that Wal-Mart China should consider going forward.

Subjects Covered: (Taken From Harvard's site)
Competitive strategy, Global strategy, Consumer behavior, Industry standards, Standardization, Competitive advantage, Expansion, Consumer goods, Department stores, Retail stores, Retailers, Retailing, Business & government, Government & business, Multinational corporations, Internationalization, Localization, Public administration, Public sector.

(My Notes)
Users & Objectives:
1. Cassian Cheung- President of Wal-Mart China, recently resigned
2. Sam Walton, founder
3. Joe Hartfield- CEO of Wal-Mart Asia

Competitors:
• world rival- Carrefour, Thailand's Lotus, Uk's Tesco, Germany's Metro
• foreign operators would usually have a dominant market position at their home markets, strong liquidity, and came with long term plans for China
• mostly operated in the form of hypermarkets

Financial position:
• poor financial results for Wal-Mart China

WAL MART US
Strategy in US:
• opened “one horse”, rural, backwater towns ignored by other retailers
• aimed to serve customers who had travel long distances to save money
• grew outside competitors' radar screens to a substantial size to command economies of scale
• public listing provided company with ample resources to finance more rapid expansion
• selling brand name products for less
• offered multiple store formats, including discount stores, supercentres, warehouse stores, and neighbourhood markets
• brought customers from all income levels
• unique combination of culture and strategies at Wal-Mart that set it apart from its competition
• started by opening discount stores in small towns: (1) avoided direct competition from stronger players, (2) due to small populations it served once Wal-Mart opened a store, the town could not support another store of similar size, and (3) rural backwaters also reduced costs due to lower land and real estate prices



Cost Controls:
• one of company's core capabilities
• only worthwhile cost was the one that got their customers to buy a product and everybody played a part in keeping the cost down
• goal: to drive down the price of products to the lowest they could possibly be
• had a huge purchasing power with 68,000 suppliers, “love hate relationship”
• Wal-Mart demanded lower price, high quality, efficient bookkeeping and punctual delivery from their suppliers
• helped suppliers improve inventory management and efficiency by weeding out extra costs
• forced its suppliers to search hard for ways to eliminate the inefficiency in their own processes in order to drive costs to a minimum and to improve the quality of their products

Logistics Management:
• target was to have inventories at half the rate of sales and to have any required delivery arriving on the shelved within one day
• no store was more than a day's drive from its distribution centre
• use of technology gave Wal-Mart great efficiency in the supply chain arrangement and was a distinct competitive advantage, started using electronic data interchange (EDI), satellite technology: able to connect all stores to home office
• enabled it to offer its customers the right product mix at the right time while keeping inventory and associated costs as low as they could possibly be

Benefits to Workers:
• started profit sharing plans for rank and file workers, 2/3 of the American workforce owned stock in Wal-Mart
• “cross training”: people switched jobs to enable them to understand different parts of the company's operation, which gave them more variation int heir jobs
• financial numbers were also shared with every employee
• position against unions, would rather close a store than allow it to be unionised
• promotes open door policy so that employees could channel complaints
• employees were motivated, happy, and passionate about their job

Competitive Advantage in which customers were looking for:
• Quality of merchandise
• assortment of goods
• price level
• store environment
• customer support
• store hours
• availability of free parking
• Wal- Mart focused on two major drivers: Price and Service
• each Wal-Mart store monitored the prices of about 1500 items in their competitors' stores
• objective: to offer same merchandise at other local stores but at 20% less
• on-going program to lower prices even further when there was the opportunity to do so “roll back”
• “Special Buy”: a product with a special tag that offered everyday items bundled with additional amounts of the same product or another product for a limited time

Customer Service:
• 3 cardinal beliefs: (1) providing great customer service, (2) showing respect for the individual, and (3) striving for excellence
• these beliefs were translated to 10 specific business rules for every executive/ associate
• “Sundown rule” required for employees to answer requests from customers by the end of business hours

Wal Mart China
• 95% of world population was outside U.S
• Wal-mart China has been losing money since they arrived in August 1996
• Wal-Mart in Germany failed because it was hindered by strict union rule,high labour costs, zoning laws and existing competition
• growth in rural areas was much slower
• problems such as, backward infrastructure, diverse regional consumption patterns
• entry into the WTO gave foreign companies more control over wholesaling and distribution
• industry was crowded with both internationally renowned retailers and domestic players
• resulted to high store density in larger cities
• retail market was undergoing continuous consolidation to eliminate weaker operators
• foreign retailers grew rapidly and commanded a market share estimated at only 3% in 2004
• local rivals were competing head on with foreign operators
• supermarket segment was primarily dominated by domestic players
• localised demand, localised supply base, and localised distributio in China also provided domestic players with an edge in establishing strong regional dominance when foreign retailers found it hard to leverage national presence in a regional market
• China saw substantial growth but many factors either a legacy of history or ew phenomena born of reform still impeded the fast development of a national market

Income Disparity
• broadened gap I wealth between rich and poor and between urban and rural populatios
• income below US$500 limit purchases to daily necessities
• US $1000-$2000 purchase consumer durables and commercial housing
• US$2000- look for sophisticated products and advanced information services
• almost impossible to develop a uniformed national merchandising or marketing strategy
• satisfying consumer's demand in different regions became a costly practice
• low income in rural areas raised concerns on Wal-Mart's US-bred strategy of locating stores in smaller communities
• questions whether such areas could support a large supercentre and were forced to re-focus on more expensive, urban locations

Local Protectionism
• local governments had incetives to protect state-owned enterprises under their jurisdiction as they were the base of their political power and a source of private benefits as well as fiscal revenue
• Wal Mart's entrance to Shanghai: published a new commercial plan to restrict the opening of new supercentres in the inner city
• delay in obtaining municipal approval put Wal-Mart in a much disadvantaged position against major competition in Shanghai's retail market

Infrastructure:
• highways were costly to use, toll fees reached as much as 10% or more of total freight costs
• toll collection at the local level was arbitrary and illegal
• under-developed highway network that Wal-Mart depended on increased costs and more waste especially with perishable goods
• backward transportation network greatly added to the cost of inter-regional distribution
• logistics costs were around 20% of GDP compared with just 10-12% I developed markets

Regulatory Restrictions:
• when distribution centre served a large enough number of stores, economies of scale would be achieved therefore pushing costs down
• only three stores were allowed to be launched in one city and only a hadful of cities were open to foreign retailers
• every store opening had to be approved by the central government
• therefore this made Wal-Mart's expansion very slow
• stores in China were supported by two distribution centres, and they were significantly underused but was required given the slow speed of transportation thus usig the distribution centres did not enable Wal-Mart to reduce costs
• Carrefour expanded quickly to occupy important markets and established network by openly bending Chinese regulations

Lack of IT Network:
• lack of IT network and regulatory ban of satellite usage impaired retailer's effieciency in communicating with its 15,000 local suppliers
Chinese Consumers Culture
1. Many Trips, Little Purchase
• many Chinese spent leisure time in commercial centres instead of staying home and compared prices and quality among different shops
• purchase was often impulsive rather than according to plan
• consumers were brand conscious ad loyalty was very hard to cultivate when consumers always shopped around for best bargain
• people would rather pick up a small amount of goods at one time because most shoppers bked or walked which limited bulk buys
• takes Chinese customer at least 5 trips to buy as much as American shopper got I oe
• average cost of serving customer greatly increased
2. Fresh Means Alive
• freshness of food was an indication of quality
• Customers' demad for absolute freshness with poor transportation network required that a large variety of foods had to be procured locally instead of through Wal-Mart's centralised pocuremet system
• diminished economies of scale and interrupted supply chain meant higher costs insatisfying Chinese customers
3. Shoplifting
• associates morale was to easy to maintain when they were paid low wages and did ot have the upside of stock options
• management turn over was high
• labour official in China's Wal-Mart condemned for squeezing suppliers and making workers suffer

Class Discussion Questions: (Class Note)

1. Why is Wal-Mart successful in the US? What are Wal-Mart's competitive advantages and its sources?
Key Success Factors in US:
• one stop shop- buy things I bulk
• different values
• very patriotic
• low cost
• good logistics
• anti unionization policy
• frugal culture
• creative barriers to entry (rural locations)- small town
• reputation
• squeeze suppliers
• efficient logistics
• hiring practices (reducing benefits paid)
• own store brands
• product mix (only products that sell)
• continuously create value
• economies of scale

2. Should Wal-Mart replicate its domestic model in its original form in China? Why? Can it build the same competitive advantage in China through its success domestic model
3. Provide suggestions on potential strategies that Wal-Mart China should consider in going forward.
Wal Mart in China:(Using what is applicable/ not applicable to China from US key success factors)
• logistics: in store housing to reduce transportation, undercut transports, work with local suppliers who established transportig
• squeezing suppliers: no urgent need to modify, suppliers willing to be squeezed, because too many products/ suppliers already
• frugal culture: keep- anti unionization policy (Not applicable In China)
• create barriers to entry (rural locations)- must be modified, rural areas in China cannot support a Wal-Mart, build near highway (suburbs)
• reputation as U.S icon
• Economies of scale- parter with powerful Carforre is a good idea

Data analysis in Microsoft Excel

As we have seen in class, Excel is capable of performing a variety of statistical analyses. These can be accessed under the “Tools” pull-down menu, within “Data Analysis”. Some of the capabilities we have explored so far include:

Descriptive Statistics
Identify the range of data for which you would like statistics in the Input Range.
Specify how the data is arranged in your spreadsheet - whether the data for one variable is grouped within the same column or the same row.
If you have included labels to describe your data in the first row/column, check the box to indicate this (it is a good idea to do this, since it makes the results easier to read, particularly when you are analyzing several variables simultaneously).
Specify where you would like the output to appear (on the same worksheet, on a new worksheet, in a new workbook).
Indicate which statistics you would like calculated. “Summary statistics” will provide most of the basic statistics you are interested in (mean, median, mode, variance, standard deviation, range, minimum, maximum, sum, count).

Histogram
Identify the range of data for which you would like a frequency table and/or a histogram in the Input Range.
If desired, identify the list of end points of the intervals you would like to use (in ascending order) in the Bin Range. Excel will choose equally spaced intervals if you do not specify any.
Specify where you would like the output to appear (on the same worksheet, on a new worksheet, in a new workbook).
Select Chart Output if you would like a histogram in addition to a frequency table.

Correlation
Identify the range of data for which you would like correlation statistics in the Input Range (at least 2 variables).
Specify how the data is arranged in your spreadsheet - whether the data for one variable is grouped within the same column or the same row.
If you have included labels to describe your data in the first row/column, check the box to indicate this (it is a good idea to do this, since it makes the results easier to read, particularly when you are analyzing several variables simultaneously).
Specify where you would like the output to appear (on the same worksheet, on a new worksheet, in a new workbook).
The output will appear as a matrix, with one row and one column for each variable.

Further details about these (or any other) Excel functions are available through the Help function in Excel.

MGMT 2000 Exam with Solutions

QUESTION 1 [8 points]

A particular type of printer ribbon is produced by only two companies, Alamo Ribbon Company and South Jersey Products. Suppose Alamo produces 65% of the ribbons and South Jersey produces 35%. Eight percent of the ribbons produced by Alamo are defective and 12% of the South Jersey ribbons are defective.

a) A customer purchases a new ribbon. What is the probability that Alamo produced the ribbon? [2 points]
b) The ribbon is tested, and it is defective. Now what is the probability that Alamo produced the ribbon? [2 points]
c) Which company would you choose to become your ribbon supplier and why? What other factors must you consider when making this decision? [4 points]

Answer:
a) 65%
b) p(A|D) = p(A,D) / p(D) = (.65)(.08) / [(.65)(.08) +(.35)(.12)] = .553
c) I would have to know the price of both types of ribbons and any costs (time, damages etc.) associated with identifying a particular ribbon as defective. If the price were the same for both and costs of identifying defectives were negligible, I would choose Alamo since it has the greatest market share (and may therefore be more reliable) and the lowest defect rate.


QUESTION 2 [10 points]

You decide to purchase new furniture for your apartment. The cash price for the furniture is $1500 (option A). You have the option to select an instalment plan of $84/month for 24 months (option B).

a) Draw a cash flow diagram for each option. [2 points]
b) What is the interest per month that you are charged? [4 points]
c) What are the nominal and effective rates per year? (If you were unable to solve part b), assume an interest rate of 1.5% per month for your calculations here and for part d).) [2 points]
d) Which option would you select and why? [2 points]

Answer:
a) Option A Option B
0 1 24
-$84
-$1500

b) PV = U * [(1+i)n-1]
[i(1+i)n]
at I=2%, PV(B-A) = 1500 + 84 ((1.02)24-1)/[(.02)(1.02)24) = -88.77
at I=3%, PV(B-A) = 1500 + 84 ((1.03)24-1)/[(.03)(1.03)24) = 77.41

IRR = r1 + (r2-r1) |NPV1| .
|NPV1| + |NPV2|
= 2 + (3-2) (88.77) / (88.77+77.41) = 2.53%

c) nominal = 12(2.53) = 30.36%
effective = (1.0253)12 –1 = 34.96%
or, using the 1.5% rate:
nominal = 12(1.5) = 18%
effective = (1.015)12 –1 = 19.56%

d) I would pay the $1500 up front. The furniture store is implicitly offering me a loan at over 30% interest. I can get a bank loan for considerably less.

QUESTION 3 [11 points]

You want to invest $10,000 in the stock market by buying shares in one of 3 companies. Shares in Company A, though risky could yield a 50% return on investment during the next year. If the stock market conditions are not favourable (a “bear” market), the stock may lose 20% of its value. If the market is neutral, the value of Company A stock will not change. Company B provides safe investments with 15% return in a “bull” market, 10% in a neutral market, and only 5% in a “bear” market. Company C is a counter-cyclical investment. It provides 10% in a “bear” market and loses 5% in a “bull” market. Its value does not change in a neutral market. All the publications you have consulted are predicting a 60% chance for a bull market, a 10% chance for a neutral market, and a 30% chance for a bear market.

a) You began to draw a decision tree to solve the problem but were called away by the sound of reindeer landing on your roof. Complete the attached tree, filling in the shaded areas. [5 points]



Bull 0.6
15000

Company A Neutral 0.1
10000

Bear 0.3
8000


Bull 0.6


Company B Neutral 0.1

11150
Bear 0.3



Bull 0.6


Company C Neutral 0.1


Bear 0.3




b) Which stock would you invest in? [1 point]
c) Compute the value of perfect information. [3 points]
d) Perfect information about the future performance of the stock market is impossible to obtain. Knowing that, why would you compute the value of perfect information? [2 points]

Answer:
a)

Bull 0.6
15000

Company A Neutral 0.1
10000
12400
Bear 0.3
8000


Bull 0.6
11500

Company B Neutral 0.1
11000
12400 11150
Bear 0.3
10500


Bull 0.6
9500

Company C Neutral 0.1
10000
10000
Bear 0.3
11000

b) company A
c) EVw/PI = .6*15000+.1*11000+.3*11000 = 13400
VOPI = 13400-12400 = 1000
d) The value of perfect information gives us an upper bound on the amount we would be willing to pay for any kind of information. We can use this value as a filter to eliminate from consideration any offers of information at a price greater than the value of perfect information.

QUESTION 6 [9 points]

Schulich tracks the number of students graduating in each term.

Year Term Graduates Moving Average
2000 Fall 23
2001 Winter 48 75.33333
2001 Summer 155 74.66667
2001 Fall 21 70
2002 Winter 34 76
2002 Summer 173 75
2002 Fall 18 69.33333
2003 Winter 17 60.33333
2003 Summer 146 65
2003 Fall 32 69
2004 Winter 29 68
2004 Summer 143

a) Use the above data to compute seasonal indices. [5 points]
b) Over how many observations was the moving average taken? [1 point]
c) Explain the meaning of the seasonal index for Fall. [2 points]
d) What Excel feature is helpful in organizing data to compute seasonal indices? [1 point]

Answer:
a)
Moving Average
F W S
75.33333 0.637168 0.637168 2.075893
74.66667 2.075893 0.3 0.447368 2.306667
70 0.3 0.259615 0.281768 2.246154
76 0.447368 0.463768 0.426471
75 2.306667
69.33333 0.259615 0.341128 0.448194 2.209571 2.998893
60.33333 0.281768
65 2.246154 0.341254 0.448359 2.210387
69 0.463768
68 0.426471

b) 3
c) The number of graduates in the fall term is 34% of what you would expect in a typical term if there were no seasonal variation.
d) pivot table
QUESTON 7 [7 points]

At the latest firemen’s union meeting, the membership expressed concern that their wages were not keeping up with the pace of inflation. The following regression model was created to investigate the growth in firemen’s average wages in thousands of dollars:
ln(Wage) = 10.69 + 0.039 (Time)
where Time = 1 in the year 1990.

a) Forecast firemen’s average wages for 2006. [1 point]
b) Compute the growth rate. [2 points]
c) Inflation has been in the 2-3% range in the last decade. Are the firemen justified in their concerns? Why or why not? [2 points]
d) Sketch a rough graph of firemen’s wages over time. [2 points]

Answer:

a) ln (Wage) = 10.69 + 0.039(17) = 11.353
Wage = 85,220.73
b) e0.039 - 1 = 3.98%
c) No. On average, their wages are growing at slightly more than the rate of inflation. (However, individual firemen’s wages may be increasing at a faster or slower rate, so some may have reason for their complaints while others would not.)
d) Wage($)







Time

QUESTION 8 [8 points]

The Finance Department at Treasure Island Toys is evaluating its cost structure. One of the things the company would like to evaluate is the appropriateness of its allocation of expenses between fixed and variable costs. The Finance Department produced the following graph using financial results for the company and industry statistics for the last 10 years:

a) Is this an effective graph for comparing the company’s cost allocation to industry standards? Why or why not? [3 points]
b) Does the company have high or low variable costs relative to the industry? [1 point]
c) Last year, the company’s sales were $500,000 and profits were 5% of income. Unfortunately this has been a slow year, and sales are forecast to drop to $400,000. What will be the effect on the company’s profit? Does the company appear to have made a good choice with respect to its degree of operating leverage under the current circumstances? [4 points]

Answer:
a) It is effective. It shows the degree of operating leverage for the company over time, which allows us to see any trends. It also shows the values relative to industry totals for easy comparison. It is easy to see that DOL has been increasing for the company while industry values remained steady; the company’s DOL is now appreciably higher than industry average. The graph is clear and easy to follow. One improvement could be to put actual years rather than a time index for the horizontal axis.
b) The company has a higher proportion of variable costs than the industry.
c) % change in sales = (400-500)/500 = -0.2
DOL = % change in profit/%change in sales ~= 2.5
Therefore % change in profit must be about –0.5
Profit(last year) = 500,000*.05 = 25,000
Profit (this year) = 25,000 (.5) = 12,500
The company’s profit will drop to $12500.
Because the company is more highly leveraged, the effect on profit is greater than it would have been if the company followed industry standard. Being more leveraged is hurting the company in this instance as its profit will drop more than it would have if DOL had been lower.
QUESTION 9 [7 points]
True/False
Determine whether the statement is true or false and circle the corresponding word.

a) An  of 0.1 weights the most recent observation more heavily than an  of 0.2. True False
b) Ieff compounded monthly is greater than ieff compounded quarterly for the same APR. True False
c)
d) Fred and Jane each invest $100 today. Fred earns 6% per year for the first 2 years and 8% per year for the second 2 years. Jane earns 8% per year for the first 2 years and 6% per year for the second 2 years. At the end of 4 years, Fred and Jane will have the same amount of money. True False
e) Fred and Jane each invest $100 at the beginning of each year for a period of 4 years. Fred earns 6% per year for the first 2 years and 8% per year for the second 2 years. Jane earns 8% per year for the first 2 years and 6% per year for the second 2 years. At the end of 4 years, Fred and Jane will have the same amount of money. True False
f) Quarterly seasonality can be captured in a regression model using 3 dummy independent variables. True False
g) When forecasting sales with seasonality, we use the model Deseasonalized Sales = a + b (Time) because it predicts the trend alone, while the model Sales = a+b (Time) would predict both the trend and seasonality. True False




QUESTION 10 [6 points]
Select the correct answer(s). Points will be granted for correct choices but will be deducted for incorrect choices.

1) The coefficient of determination (r2) tells us
a) that the coefficient of correlation is larger than 1
b) whether R has any significance
c) that we should not partition the total variation
d) the proportion of total variation in y that is explained by x

2) What Excel function can be used to do the equivalent of: IF(J4>H3,J4,H3)
a) MAX
b) MIN
c) GOALSEEK
d) COUNT

3) An investment is acceptable if its IRR
a) is exactly equal to its net present value (NPV)
b) is exactly equal to zero
c) is less than the required return
d) exceeds the required return

4) Net present value:
a) is equal to the initial investment in a project
b) compares project cost to the present value of the project benefits
c) is equal to zero when the discount rate used is less than the IRR
d) is simplified by the fact that future cash flows are easy to estimate
e) requires a firm to set an arbitrary cut-off point for determining whether an investment is acceptable

5) What are the disadvantages of the payback period method:
a) ignores the time value of money
b) biased against long-term projects
c) biased toward liquidity

Finance Cheat Sheet

Cash Flow from Assets
= Cash Flow to Creditors + Cash Flow to Stockholders
= Operating Cash Flow (OCF) - Net Capital Spending (NCS) - Additions to Net Working Capital (NWC)

Cash Flow to Creditors
= - (Net New Borrowing)

Cash Flow to Equityholders
= Dividends Paid - (Net New Equity Raised) = (dividends – equity issued) – (interest – new LT debt)

Operating Cash Flow
= Net Income + Depreciation

Net Capital Spending
= End. Net Fixed Assets - Beg. Net Fixed Assets + Depreciation

Additions to Net Working Capital
= End. NWC - Beg. NWC

NWC = Current Assets - Current Liabilities

Personal Tax on Dividends
1. Grossed-up dividends = gross-up factor (1.25) x dividends
2. Gross federal tax = federal tax rate x grossed-up dividends
3. Federal dividend tax credit = federal dividend tax credit rate x grossed-up dividends
4. federal dividend tax = gross federal dividend tax – federal dividend tax credit

Ch 4: Time Value of Money

Future Value = I * (1+r)t

Present Value
= future value after t periods / (1+r)t
r = (FVPV )1/n – 1
Rule of 72: time for investment to double is 72/r
Interest rate on a perpetuity = cash payment / present value
= C / PV

PV of a perpetuity = cash payment / interest rate
= C / r

PV of a delayed perpetuity
= (cash payment / interest rate) x [1 / (1+r)t]

PV of a t-year annuity
= C [1/r – 1/(r(1+r)t) ]

PV annuity due
= 1 + [1/r – 1/(r(1+r)t-1)]

FV of annuity
= cash payment x (1+r)t
= C x {[1/r – 1/r(1+r)t] x (1+r)t}
= C x {[(1+r)t – 1] / r}

PV of a perpetual stream of payments growing at a constant rate
= C / (r-g)

PV of a finite stream of payments growing at a constant rate
= [C / (r-g)] x {1-[(1+g) / (1+r)]T}

Real future value of investment
= [$1000 x (1 + nominal interest rate)] / (1 + inflation rate)

1 + real interest rate
= (1 + nominal interest rate) / (1 + inflation rate)

Real interest rate =(approximately) nominal interest rate – inflation rate

1+EAR = (1 + annual rate)
= (1 + monthly rate)12
= (1+(APR/m))m

Monthly interest rate
= APR / 12

Per period rate
= (1+EAR)1/m -1

APR = m × per period rate

Ch 5 : Bonds Valuation

PV of a bond (bond price)
= PV (coupons) + PV (face value)
= coupon x [1/r – 1/r(1+r)t] + face value / (1+r)t

Coupon rate
= coupon / face value

Current yield
= annual coupon payment / bond price

Rate of Return
= (coupon income + price change) / investment

Effective annual equivalent: rate of return on a 2 year bond
= [1 + (coupon income + price change) / investment] ½

Price
= face value / (C+YTM) maturity

Ch 17: Ratios

Leverage Ratios
Long-term debt ratio
= long-term debt / (long-term debt + equity)
Debt-equity ratio
= long-term debt / equity
Total debt ratio
= total liabilities / total assets
Times interested earned
= EBIT / interest payments
Cash coverage ratio
= (EBIT + depreciation) / interest payments
Fixed charge coverage ratio
= (EBIT + depreciation) / interest payments + (debt payments) / (1 - tax rate)

Liquidity Ratios
NWC to assets
= net working capital / total assets
Current ratio
= current assets / current liabilities
Quick ratio
= (cash + marketable securities + receivables) / current liabilities

Interval Measure
= (cash + marketable securities + receivables) / average daily expenditures from operations

Efficiency Ratios
Total asset turnover
= sales / average total assets
Average collection period
= average receivables / average daily sales
Inventory turnover
= cost of goods sold / average inventory
Days’ sales in inventories
= average inventory / (cost of goods sold / 365)
Average payment period
= average payables / average daily expenses

Profitability Ratios
Gross profit margin
= (sales - cost of goods sold) / sales
Operating profit margin
= (EBIT - taxes) / sales
Net profit margin
= (net income + interest) / sales
Return on assets
= (net income + interest) / average total assets
Return on equity
= net income / average equity
Payout ratio
= dividends / earnings
Plowback ratio
= 1 - payout ratio
Growth in equity from plowback
= plowback ratio x ROE

Market Based Ratios
Price-earnings ratio
= stock price / earnings per share

Market to book ratio
= stock price / book value per share
= Market EquityBook Equity
Book value per share
= shareholder's equity/number of common shares outstanding

DuPont System
ROA
= asset turnover x profit margin
= sales/assets x (net income + interest) / sales
ROE
= leverage ratio x ROA x “debt burden”
= leverage ratio x asset turnover x profit margin x “debt burden”
= assets/equity x sales/assets x (net income + interest)/sales x net income/(net income + interest)

EVA = residual income
= income earned – income required
= income earned – [cost of capital x investment]

Dividends = eps * payout ratio

Ch 6: Stocks Valuation
Expected return = r = (DIV1 + P1 – P0)/P0

After-tax rate of return = (DIV1 – dividend tax)/P0 + (capital gain – capital gains tax)/P0

Price today = P0 = (DIV1 + P1)/P0
P0 = PV of (DIV1, DIV2…) = DIV1/(1 + r) + DIV2/(1 + r)2 + … + (DIVt + Pt)/(1 + r)2

Stock price = PV (all future dividends per share)

P0 = DIV1/r
Value of a no-growth stock = P0 = EPS1/r

Constant-growth DDM P0 =DIV1/r-g = DIV0* (1+g) / r-g

Expected rate of return = r = DIV1/P0 + g = dividend yield + growth rate
Non-constant growth:
P0 = DIV1/(1 + r) = DIV2/(1 + r)2 + … + DIVH/(1 + r)H + PH/(1 + r)H
PV of a growing annuity
= C1/(r-g) x {1- [(1-g)/(1+r)]t}
EPS = stock price/earnings
Terminal price = Pt = DIVt+1/(r – g)
Sustainable growth rate = g = return on equity x plowback ratio

Payout ratio = dividends/earnings

Plowback ratio = 1-payout ratio



Ch 7: NPV

NPV = PV – required investment

PV = C1/(1 + r) + C2/(1 + r)2 + … + Ct/(1 + r)t, last year to add CF sold for

NPV = C0 + C1/(1 + r) + C2/(1 + r)2 + … + Ct/(1 + r)t

PV = cash flow x annuity factor = C x [(1/r) - 1/r(1 + r)t]

Rate of return = profit/investment = (C1 – investment)/investment = (C1 + C0)/(-C0)

NPV = C0 + C1/(1 + IRR) + C2/(1 + IRR)2 + … + Ct/(1 + IRR)t

Book rate of return = book income/book assets

Equivalent annual cost = present value of costs/annuity factor
Profitability index = NPV/initial investment

Ch 8: Capital Budgeting

Incremental CF = CF with project = CF without project

Net working capital = ST assets – ST liabilities

Total project cash flows = CF from investment in plant and equipment + CF from investment in WC + CF from operations (incl. OCF & CCA tax shield)

CF O = revenues – cash expenses – taxes paid = net profit + depreciation = (revenues – cash expenses) x (1 – tax rate) + (depreciation x tax rate)

Depreciation tax shield = depreciation x tax rate = CCA tax shield

Taxable income = revenues – expenses – CCA

PV of CCA tax shield
= [CdTc/(r + d)][(1 + 0.5r)/(1 + r)] – [SdTc/(r + d)][1/(1 + r)t]
C = capital cost of an asset acquired at beginning of year 1
D = CCA rate for asset class to which asset belongs
UCC = undepreciated capital cost in year t after deducting CCA for the year
Tc = firm’s tax rate
r = discount rate
S = salvage amount from sale of asset at end of year t

PV of CCA tax shields = PV of perpetual tax shield on asset acquired in year 1 - in year t

PV = S/(1 + r)t

PV of CCA tax shield = 1/(1 + r)t x SdTc/(r + d)

CCA tax shield = CCA x tax rate

NPV = total PV excluding CCA tax shields + PV of CCA tax shield

Financial projections*
= Capital investment + Working capital + Change in working capital + Revenues + Expenses + CCA of equipment + Pretax Profit + Tax (35%) + Profit after tax

Cash flows*
= Capital investment + Change in working capital + Cash flows from operations (excl. CCA tax shield) + total cash flows (excl. CCA tax shield) + Discount factor + Present value (excl. CCA tax shields)+ Total PV (excl. CCA tax shields)

OCF (excl. CCA tax shield)
= Revenues – Expenses = Profit before tax – tax at 35%

Profitability index = NPV / -Co

Ch 10: Risk, Return of Capital

Percentage return = (capital gain + dividend) / initial share price

Dividend yield = dividend / initial share price

Percentage capital gain = capital gain / initial share price

1 + real rate of return = (1 + nominal rate of return) / (1 + inflation rate)

Portfolio rate of return = (fraction of portfolio in first asset x rate of return on first asset) / (fraction of portfolio in second asset x rate of return on second asset)

Correlation b/w x & y = (covariance b/w x & y) / (STD of x * STD of y)

Portfolio STD = ơp = sqrt(x2sơ2s + x2gơ2g + 2xsxgρsg ơs ơg)

Ch 11: CAPM

Beta of stock j = βj = (ρj,m)(ơj) / ơm or cov(rj, rm) / ơ2m = change in the rate of the return of stock j / change in the rate of return of the market

Beta of portfolio = (fraction of portfolio in 1st stock x beta of 1st stock) / (fraction of portfolio in 2nd stock x beta of 2nd stock)

Risk premium on any asset
= r – rf = β (rm-rf)

Market risk premium = rm - rf

Expected return on stock = risk-free interest rate + (beta x market risk premium) = r = rf + β(rm-rf)

rf = (required return – βrm) / 1-β

r = (DIV + capital gain) / price

fair price = (DIV + expected price) / 1+r

Variance = proportion * (estimated return – expected return)2 + …

Ch 12: WACC

Company cost of capital = weighted avg of debt and equity returns

After-tax cost of debt = pretax cost x (1-tax rate) = rdebt x (1-Tc)

WACC = [D/V x (1-Tc) rdebt] + (E/V x requity) + (P/V x rpreferred)

NPV = investment + (after-tax cash flow/rate of return)

requity = DIV1/P0 + g

rpreferred = dividend / price of preferred

stock’s beta = (expected return on stock – risk-free rate) / expected market risk premium

debt’s beta = (expected return on debt – risk-free rate) / expected market risk premium

βequity = βassets + (βassets – βdebt) D/E or βassets x (1+ D/E)

βlevered¬ = βu + (βu - βdebt)(1-Tc)D/E or βu x [1+(1-Tc)x D/E]

Paradoxes of Economics

WAL-MART: A group of intellectuals tackle America’s giant

Nelson Lichtenstein, Wal-Mart: The Face of Twenty-First-Century Capitalism (New Press, 2006)


On average, every minute almost 10 000 consumers visit an American Wal-Mart store. It is the largest private employer in the United States and Mexico and operates stores in eight different countries. There is no denying the ubiquity of the corporation in our everyday lives and the significant role that it plays in determining the future of our world economy. Nelson Lichtenstein attempts to explore the profound influence as well as the humble beginnings of this multinational giant in his collection of essays, Wal-Mart: The Face of Twenty-First-Century Capitalism. Lichtenstein, a professor of history at the University of California Santa Barbara, assembled the diverse group of scholars to compare their perspectives on Wal-Mart and the “global manufacturing-transport-distribution chain in which that corporation is the largest and most significant link” (x). The common theme that is expressed throughout the book is that Wal-Mart has become the template for twenty-first-century capitalism. While all of the contributors may agree on that aspect, their opinions deviate on whether this template is the source of a capitalist revolution or demise. Although each essay is written independent of each other, they are broadly organized into three sub-themes: History, Culture, Capitalism; A Global Corporation; and Working at Wal-Mart. These three themes aim to explain Wal-Mart’s phenomenal rise to the top, and their strategies to remain there.

Wal-Mart’s ruthless ascent to the top is as much attributable to favourable timing and location as its charismatic founder, Sam Walton. The first Wal-Mart discount store opened in Bentonville, Arkansas in 1962 with a simple concept; generate high inventory turnovers using low markups. In order to maintain low markups, Walton realized that it was absolutely necessary to keep labour costs at a minimum. Fortunately, the New Deal and civil rights revolution had not been firmly established in Arkansas which meant that Walton could play around with minimum wage laws. Moreover, thousands of men and women were desperate for jobs after the agricultural revolution, which made farming more capital intensive. As the years went on, Wal-Mart capitalized on events such as the failure of unionization in Arkansas, Reaganomics, and NAFTA to keep costs low. While other discount retailers and the dominant corporation of the time GM suffered from rising wages, Wal-Mart actually saw their real wages decrease in the years after 1970. This is nothing out of the ordinary as Wal-Mart has built an empire based on being different and trying new techniques to increase efficiency. As Wal-Mart grew, it tirelessly searched for innovative technologies to implement in order to improve their economies of scale. For example, the use of communications technology reduced management costs and allowed Wal-Mart to expand while still being able to micromanage each individual store. It was evident that Wal-Mart was changing the way retailers conducted business. It was only a matter of time before Wal-Mart took over the rest of the world.

For years, retailers were forced to accept the manufacturer’s prices if they wanted to do business. The emergence of Wal-Mart shifted the power towards retailers because manufacturers were fighting to get their products on Wal-Mart’s shelves. Also, the rapid growth of global manufacturers gave retailers more choice, and often a cheaper option than its American counterparts. This power shift ushered in an era of post-Fordism, a period characterized by globalization of production, extreme capital mobility, and high levels of employment insecurity and stratification. A prominent feature of the post-Fordist economy was the logistics revolution of the global distribution chain. As the proportion of merchandise being imported was dramatically increasing, a more efficient method of trade was necessary. Of course, Wal-Mart set the template with inter-modal freight transport and Radio Frequency Identification (RFID) tags. Inter-modal transport used more than one mode of transportation to move freight which Wal-Mart used in conjunction with their famous distribution centers. This method resulted in a faster and cheaper way to get inventory. Accordingly, the system of production and distribution shifted from push to pull, where the retailer tracked consumer behaviour and demanded an exact amount. Wal-Mart used this pull system to keep wastage to a minimum and constantly improved it by sharing consumer data with its suppliers. The result is greater sales and lower costs for both Wal-Mart and its suppliers. Wal-Mart’s globalization of the distribution chain continued past the supplier as they began to open retail stores worldwide. As Chris Tilly points out in his essay, one of their most successful ventures was in Mexico. In fact, it’s 2004 sales in Mexico were greater than the next three leading competitors combined (189). The point is reiterated that Wal-Mart has built an empire based on taking advantage of favourable conditions. Firstly, thanks to the North American Free Trade Agreement (NAFTA), goods could move freely between America and Mexico. Also, at the time there were few large, modern retail stores and on top of that, Wal-Mart bought the leading retailer in Mexico, Cifra. The low income population welcomed Wal-Mart because of the cheap goods and the abundance of jobs, which paid relatively well for them. There are however, limits to this success. Since Wal-Mart has established itself as a template business, other Mexican retailers have begun to modernize and adapt some of their efficient practices. As Wal-Mart’s piece of the pie is decreasing, the pie itself is also shrinking. The polarization between the rich and the poor is expanding and with the ever-present risk of economic recessions, less people can actually afford to shop at Wal-Mart. Nevertheless, Wal-Mart was a trailblazer in international expansion for retail companies, who previously preferred to stay in North America. As the section suggests, Wal-Mart has truly become a global corporation and their ideas involving globalization – intermodal transport and international establishment – have become the model for large-scale growth for companies in America.

Wal-Mart’s non-conformist ideology has historically changed the American economy and is currently revolutionizing the global economy. However, there is one issue where Wal-Mart’s refusal to let up has drawn a storm of criticism. The final theme that the essays explore is ‘Working at Wal-Mart.’. This is the aspect of the Wal-Mart template that people fear most. For years Wal-Mart has been accused of “vociferous antiunionism, embedded gender discrimination, compulsive cost cutting and near comprehensive control over workers and the workplace” (213). In Wal-Mart’s defense, these practices have been rampant in discount retailing for years. It is just that Wal-Mart has become the epitome of bad labour relations because they have so ruthlessly used them to their advantage. The author depicts working at Wal-Mart as a demanding and unjust occupation. Every single employee from top to bottom of a Wal-Mart store each faces his or her own difficulties from the authoritarian executives. The lowest paid employees, in addition to being poorly compensated, are under constant surveillance. The threat of unionization was so great to Wal-Mart that private investigators and lie detector tests were often utilized in stores. When exceptional workers seem interested in forming a union, managers find fault with their work and fire them. To ensure maximum productivity, workers are shamed in front of their peers for bad jobs and constantly taken down a notch to prevent them from aspiring towards greater pay or position. These stressing conditions are only the beginning for female workers. The culture of Wal-Mart has always been patriarchal with a vast majority of men in managerial positions. It stems back to the early days when it was thought that promotions should be reserved for men because they were responsible for supporting their families. Women have consistently been paid far less than men at Wal-Mart and are rarely given the opportunity for advancement. This discrimination has become so endemic that a class action lawsuit has been filed by 1.6 million women who claim that they have been denied promotions and raises. As the template of American business, the result of this case may set a precedent that will echo throughout every workplace in the country. The blame for all of this discrimination cannot be placed squarely on the managers. Near impossible demands are given to store managers who have a limited wage budget to spend. Managers are expected to continually cut costs and increase sales which the executives constantly monitor. A common message from executives is “if you don’t beat yesterday, management could have your job at any moment” (254). It is easy to understand why some managers might be tempted to resort to unethical practices such as the discriminatory acts towards workers. Fortunately, progress has been made in the fight for greater labour rights at Wal-Mart. Aside from North America, all Wal-Marts around the world are unionized. The difficulty in getting unions in North America is Wal-Mart’s use of leverage in denying unions to form. Unless the entire American Wal-Mart workforce (1.3 million people) does the impossible and unites together to fight for a union, Wal-Mart can always fire the employees in favour of unions. Union expert Wade Rathke advocates a ‘Wal-Mart Workers Association’ that stands up for labour rights and provides a voice for workers. The prevailing belief among unionists like Rathke is that if nothing is done to prevent to conditions that are in place in Wal-Mart today, the future is not only grim for the state of workers in Wal-Mart, but for companies everywhere.

By the end of the book, there is a clear notion that Wal-Mart has and will play a big factor in our world economically, socially, culturally, and politically. It is the model of efficiency and innovation. It is spreading its mid-west values throughout the world. It is the heartless giant that treats its employees unfairly. It is Wal-Mart. This is the message of Wal-Mart: The Face of Twenty-First-Century Capitalism. Unlike its topic of focus, the book itself is inefficient in delivering that message. That is not to say that it is not an excellent read for one who wishes to get a comprehensive look into the history, culture, and ideology of the much revered company. However, while you are being served a full plate of information and statistics, you are also being stuffed with author bias and conflicting opinions. Ironically, the appealing strength of the book doubles as its inherent weakness. The diverse group of contributors provides an in-depth examination of the retailing giant from different perspectives but this interdisciplinary approach is hardly effective. Although Lichtenstein wants to present both sides of the argument, his collection is like listening to a debate where the opposing sides are arguing different topics. While James Hoopes seems to toe the company line by declaring “there is no denying the high morale of many Wal-Mart employees” (98), David Karjanen argues that Wal-Mart “simply cannibalize[s] sales from existing firms putting them out of business” (157). Amidst all this, some essays managed to stay neutral and provide an impartial view on Wal-Mart. In Lichtenstein’s own essay, he provides and excellent example that illustrates the varying impacts of Wal-Mart. He introduces four women: a single mom who depends on Wal-Mart’s low prices; a woman who lost her job as a result of Wal-Mart forcing other companies out of business; a Chinese labourer that makes goods for Wal-Mart for low wages; and the loyal wife of a Wal-Mart assistant manager. Four women. Four lives affected. Two for the better and two for the worse. Chris Tilly also provides an interesting look into Wal-Mart’s expansion into Mexico by observing the favourable conditions for Wal-Mart’s entry but also mentioning the limiting factors that could affect its growth.

Another deficiency of the collection of essays is since the contributors explore different issues and topics, there is little to no continuity between the chapters. They are autonomous of each other and show that little planning was made beforehand to link them together. While the essays are sorted into three loosely based sub-themes, some essays are expository and do not aid in the exploration of any themes. The essays in each section can be read in any order and still have the same effect. A more effective manner would be to present them cumulatively so that each essay builds upon the next. Once you reach the conclusion, you will be able to reflect upon the themes and concepts more adeptly than before. The fact that there is no true concluding essay to this collection leaves us searching for closure on the themes that were explored.

The essays themselves were quite well-written as is expected from a group of professionals and academics. The level of language and use of business terminology was suitable for university level students but some business concepts may be unknown to the average reader. The clean organization of each essay into sub-headings made the information easier to read and comprehend. Each author provided ample amounts of evidence to support their statements and the information was presented in a variety of ways. Many real-life examples were given to show the practical implications of Wal-Mart’s influence and occasional graphics were displayed for the reader to visualize the information.

Overall, Wal-Mart: The Face of Twenty-First-Century Capitalism is definitely required reading for anyone interested in Wal-Mart. It poses a simple question: To what degree will Wal-Mart create the template for twenty-first-century capitalism and what does that mean for us. Although the answer is not presented clearly by the authors, it provides enough information for the reader to formulate his or her own opinion. Therefore in a way, the book acts like a Wal-Mart manager. Stressed to accomplish an ambitious task – investigate Wal-Mart as a template of capitalism -, the book makes the reader go overtime to do all of the work. At the end up the shift, the reader is left with a feeling that they did not get what they deserved.

CASE STUDY: International Productions Corporation

CASE 4: International Productions Corporation

In this case students are asked to advise the preparer of the financial statements. As a result responses should include consideration of all users and their objectives followed by a ranking of the objectives. The analysis that follows should be consistent with the ranking of the objectives. Different ranking of objectives are possible and different rankings should be assessed on their merit; that is, the support offered in the response. Similar rankings can be evaluated differently depending on the support. Similarly, the same recommendation can be evaluated differently depending on the support. Students should be rewarded for developing arguments in the vein presented. It is important to keep in mind that the students are in introductory accounting so it can’t be expected that they will be able to develop comprehensive arguments. Even though GAAP is a constraint in this question there should be no expectation that they will know the details of GAAP (such as CICA Handbook sections). Recommendations should be consistent with GAAP principles and concepts—if they are consistent then students should be rewarded. Student responses should be written in role and should be supportive of the CEOs objectives. Coverage of the issues below is not necessarily comprehensive. Additional valid points can be raised and should be recognized.

Role: • Advisor to the CEO and largest shareholder of IPC. Given the ongoing need for capital the CEO would likely want to take an aggressive stance on accounting issues so as to give confidence to lenders and equity investors. Advisor should try and support this view but stay within the constraints. Recommendations have to supported and reasonable if there is to be credibility. Auditors are involved so any recommendations have to be consistent with GAAP and otherwise be fair, while in accordance with GAAP.
Key users: • Lenders
• Prospective lenders (IPC is expanding rapidly and will likely continue to need access to capital)
• Non-management equity investors
• Prospective equity investors
Key facts: • IPC is rapidly expanding.
• Ongoing supply of cash is required to finance new shows and existing shows in new venues. Existing and prospective equity investors and lenders will use the financial statements to assess the attractiveness of their investments or the desirability of making new or additional investment.
• The CEO owns 30% of IPC’s equity. He will have a strong interest in ensuring an ongoing supply of capital to support the company. If cash flow is cut off or interrupted IPC would be is significant trouble and the CEOs wealth would be significantly impaired.
• The issues that have to be addressed are “soft” issues. There are no obvious solutions to them and, more importantly, actual users of the financial statements cannot definitively determine that they are right or wrong.
Constraints: • GAAP. IPC is audited so the financial statements are likely to be prepared in accordance with GAAP. Bank lenders and non-management equity investors would likely require this.
Objectives: • Income maximization
• Tax minimization
• Stewardship
• Cash flow prediction
• Performance/management evaluation
• From the perspective of the stakeholders, tax minimization, stewardship, cash flow prediction, and performance/management evaluation would be a sensible ranking. Tax minimization would conserve needed cash and the other three mentioned objectives would provide users with insights about IPC that would be useful for making decisions from there perspectives (more specific discussion of these objectives would be appropriate).
• From the perspective of the CEO (the preparer) the objective of income maximization might be more important so that he can attempt to keep investors and prospective investors satisfied and willing to provide needed capital.
• (Different rankings of objectives are possible and acceptable, if supported.)
Issues: • Penalty
• CEO would want to recognize the penalty as revenue in full in the current period to increase income.
• If penalty is paid to compensate for lost revenue or profit because of the delay this treatment makes sense. By opening the theatre later than intended revenue was lost. The penalty simply replaces the revenue/profit that was been lost.
• If the penalty is considered revenue in 2004 there is also question of how it should be disclosed—segregated as an unusual item or included in ordinary revenue.
• The penalty is clearly unusual, but it may be replacing revenues/profits that will be recurring. Including the amount in ordinary income would mean that stakeholders would include the amount in any forecasts of future earnings.
• An alternative treatment for the penalty would be to net it against the cost of the theatre.
• Since the penalty is effectively a reduction in the cost IPC pays to the construction company it makes sense to record the cost of the theatre at the net amount. In this alternative the benefit from the penalty would be spread over the life of the theatre.
• This second alternative would serve an objective of income smoothing
• Accounting, What Could be Better?
• Revenue recognition from sale of tickets
► When should ticket revenue be recognized: on performance or on sale of tickets.
► CEO would prefer recognizing revenue when tickets are sold but there is little support for that critical event. Performance clearly occurs when the show is performed.
► If the show is not performed tickets would have to be refunded.
► Would also be difficult to estimate the costs associated with the revenue—would have to know future production costs and allocate them to individual tickets.
► Recognize revenue on performance—facts prevail here.
• Interest revenue
► Should the interest revenue be recognized as earned or deferred?
► CEO would want to recognize as earned because it would increase income.
► Recognizing as earned is justified because the interest is not related to the show being produced and interest will not be returned to customers if the tickets have to be refunded.
• Pre-production costs
► Should production costs incurred before the show begins its run be capitalized and amortized over the life of the show or expensed as incurred.
► CEO would want to capitalize (and amortize over as long a period as possible) to increase income.
► Capitalizing costs is appropriate and makes sense if the show can produce revenue to cover the pre-productions costs.
► Capitalizing and amortizing makes for better matching of costs to revenues.
► Evidence suggests that the show will be a success. Over $21MM in tickets have been sold for the first 40 weeks. The show has also been a long running success in Europe.
► However, the show has not yet sold enough tickets to be profitable. Taking the pre-production costs ($15MM) and the weekly operating costs ($250K) makes for total costs for the first 40 weeks of $25MM versus revenues of $21,840,000.
► Key question is how to amortize these costs. From the CEOs standpoint, the longer the better. A long amortization period would make IPC look better in the eyes of stakeholders. (The treatment used would be very difficult for stakeholders to assess.) Could argue for a lengthy run (say five years) over which to amortize the costs.
► Weekly production costs should be expensed as incurred.
► The argument for expensing is conservatism—uncertainty about the success of the show, but evidence suggests this should not be a concern.
► Tax minimization would be best served by expensing as incurred.
► Students should use the quantitative data in their analyses.
• Accounting for sale of real estate
• Issue here is whether sale of theatres is a normal part of operations or incidental.
• If it is normal then sale amounts should be included in revenue and costs somewhere in operating costs.
• If incidental the amount would be reported as a gain on sale.
• Arguments could be made for each treatment. If IPC is effectively in the real estate business because it buys and sells real estate (using the real estate for a theatre in the interim) then treating the sales of real estate as revenue makes sense.
• It is likely that revenue from sale of theatres is much more variable than revenue from selling movie tickets, concessions, etc. For that reason it would probably be desirable for stakeholders to have the different types of revenue reported separately. There is no requirement that the types of revenue be reported separately. (Segment disclosure does not apply to private companies—students are not expected to know this though.)
• The CEO would probably want to disclose little about the different types of revenue because in the current year at least the sale of theatres has generated a large amount of revenue. This could convey a level of ongoing success to stakeholders that would affect forecasts and ultimately improve IPC’s ability to raise capital.
• Classic movie library
• Revenue recognition from $1MM contract
► Revenue could be recognized on signing of contract, ratably over the life of the contract, as each movie is shown, or at the completion of the contract.
► CEO would prefer recognition on signing, but this is premature because IPC has not delivered the promised access to the movies. In other words, the obligation to fulfill the contract has not been met. If for some reason IPC cannot deliver the movies as required it does not get the revenue. (Amount of revenue, cost, and collectability are assumed not to be problems here.)
► Completed contract is too late because movies presumably would have been delivered over the four years of the contract.
► Ratably and as movies are shown are both viable alternatives.
► As the movies are shown is straightforward. IPC becomes entitled to cash when a movie is shown. Thus this method links cash with revenue. Once a movie is shown there is no uncertainty about the ability of IPC to deliver a film as required. If the broadcaster does not make full access of the library it will still be required to make a payment to make the total $1,000,000. This payment would be made and recognized at the end of the contract.
► Ratably makes sense because what the broadcaster has purchased is access to the film library over four years. Exactly when access will be used is unclear at the outset. However, the revenue is earned with the passage of time. This method could create a significant disconnect with cash flow if the broadcaster does not use films from the library over the life of the contract.
► For purposes of increasing income it is not clear which of ratably and as the movies are shown is preferred. Which method generates more revenue early will depend on how the broadcaster makes use of the library. If it uses a lot of films right away the “as used method” will generate more profit early. If it does not make use of the library right away the “ratably” method will generate more income sooner. The ratably method provides for more predictable income flows ($250,000 per year).
► Students should discuss “performance” in their responses.
• Valuation of the library
► Is the library overvalued on the books of IPC and should it be written down?
► The CEO would not want the library written down because of the negative effect on earnings.
► There has been little interest in the library in its first year. However, a contract has been signed with a broadcaster.
► The recent contract establishes a market for the content of the library, so it is arguable that other broadcasters will eventually come calling.
► The library is has an unlimited life (the movies don’t wear out) so there is plenty of time to generate revenue from the library.
► It could be argued that the lack of interest and a single contract worth 20% of the cost of the library suggests that it is overvalued and should be written down.
► While the latter argument has some validity an acceptable argument can be made for not writing down the library.
► Under any circumstances this is a challenging issue to resolve. The net recoverable amount associated with the library is highly uncertain. Can another $4,000,000 in sales be generated?

BUSINESS CASE: Angela Kellett, Barrister and Solicitor

CASE 3: Angela Kellett, Barrister and Solicitor

Role: • An accounting advisor engaged by a lawyer to help with concerns about an earnout arrangement (payment for the purchase of a business based on performance after the sale has closed).
Key users: • Ms. Kellett and Mr. Jones are the only relevant users. Ms. Kellett will use the report to assist her in assessing the earnout agreement.
Key facts: • Earnout arrangement being proposed for sale of company.
• Selling price will depend on earnings after the sale closes and buyer (role is working for the seller) will prepare the financial statements.
• Ms. Kellett and Mr. Jones are unsophisticated financial statement users.
• Financial statements have a number of “soft spots” that could lead to Mr. Jones being disadvantaged by the earnout arrangement.
Constraints: • The purchaser has suggested the earnout state that the financial statements be prepared using GAAP consistently applied. A clean audit opinion would also be required. Tighter constraints are required because GAAP still provides significant leeway to the new owners that will allow them to disadvantage Mr. Jones.
Objectives: • Identify soft spots in the financial statements and propose ways to protect Mr. Jones from not receiving fair compensation for his business
Issues: • Possible non-arm’s length transactions.
• Inuvik will be a major supplier to other companies that the buyer owns.
• This is a reasonable strategy for the buyer but it creates risks for Mr. Jones because transactions between Inuvik and the other companies are not at arm’s length and the selling price used in the transactions may not be at market value.
• The new owner could require sales to occur at below market value, which would lower Inuvik’s net income and lower the payment to Mr. Jones. Doing this would be beneficial to the new owner.
• Contract should specify that sales to related parties should be at fair value and that independent verification be allowed if requested by Mr. Jones.
• Inventory valuation and write offs/downs.
• The contract protects Mr. Jones from changes in the accounting policies used for inventory because GAAP must be consistently applied.
• However, by its nature specific identification allows for manipulation because the managers can choose the actual items sold (if they are identical).
• Also a significant problem is that Inuvik has a supply of old inventory (that is still used).
• The new owner could decide that this old inventory is obsolete and write it down. This would reduce net income and the payment to Mr. Jones.
• The timing and amount of write downs is often arbitrary and with old, seldom used inventory a reasonable case could probably be made for a write down (with the auditor’s agreement).
• Mr. Jones and the buyer should determine which inventory is still useable and the earnout agreement should specify that that inventory should not be written down or off.
• New equipment purchase and accounting treatment of old equipment.
• New equipment could be amortized using a different amortization policy than the old.
• For example, the old equipment might be amortized using straight-line amortization while the new could have an accelerated method. This would not be a change in accounting policy so it would be allowable.
• Accelerated amortization would result in higher expenses in the first years compared with straight line, which would reduce the payment to Mr. Jones.
• The new owner could also choose a short amortization period.
• Mr. Jones and the buyer should agree on the amortization method that would be used on new equipment and the useful life and salvage value.
• If new equipment is purchased it result in the old equipment to be written down or written off.
• The information provided by Mr. Jones suggests that the old equipment would only be used on a limited basis if new equipment was purchased, which suggests the need for a write down.
• The amount and timing of write downs are subject to considerable judgement by the preparers of the financial statements.
• Mr. Jones and the buyer should agree to how possible write downs of the existing equipment should be dealt with in the earnout arrangement.
• Revenue recognition, returns, and bad debts.
• Inuvik should not be able to change its method of revenue recognition since the contract states that the financial statements must adhere to GAAP consistently applied.
• Change in revenue recognition policy would only be possible if the terms of transactions changed.
• There could be a problem with sales of components made using the new technology because the cost of the warranty may not be measurable (see the warranty issue).
• Otherwise there may be flexibility in setting the amount of bad debts.
• The earnout arrangement should specify the acceptable amount of provision for bad debts.
• Development costs.
• Development costs must have future benefits to be classified as assets (there are detailed rules for determining whether an expenditure can be capitalized as a development cost but students are not expected to know these rules).
• Judgement is required to determine whether they should be written down or off in a period.
• The new owner could elect to write the development costs down or off during the period on the basis that they are impaired.
• The new owner could also shorten the amortization period of the development costs.
• Both of the above two points would reduce net income and the amount of the payout to Mr. Jones.
• Mr. Jones and the buyer should agree on the status of the development costs at the time the sale closes. At that time the development costs should either be written down or off or the parties agree to no changes in how they are accounted for over the earnout period.
• Warranty costs
• Warranty costs should be expensed at the time the associated revenue is recognized (matching).
• Because the actual warranty costs will be incurred in the future it is necessary to estimate them at the time the sale is made.
• For existing products there appears to be a reasonable track record on warranty costs. Mr. Jones and the buyer should agree on the basis for determining the warranty provision (percentage of revenue that should be expensed).
• Without an agreement the buyer could increase the amount of the provision (probably by a small amount on a percentage basis).
• For the new product the issue is more serious.
• It is uncertain what the warranty costs will be for the new products and so the buyer may have significant flexibility in determining the provision.
• Revenue recognition rules allow for deferral of revenue recognition if it is not possible to make a reasonable estimate of the amount of the warranty provision.
• Mr. Jones and the buyer need to lay out the terms for the warranty on the new product. Some agreeable basis for determining the amount is necessary to avoid surprises described above.
• Goodwill
• Goodwill is not amortized but must be evaluated regularly to determine if it is impaired. If impaired the goodwill should be written down.
• Goodwill is a residual representing the amount of the purchase price of an entity that cannot be attributed to identifiable assets and liabilities. As a result what exactly goodwill is is not known.
• Because of its nature management could decide that a write down of goodwill is required. (The CICA Handbook provides rules for determining whether goodwill is impaired but students are not required to know these rules. However, because of its nature there is considerable judgement and subjectivity in the assessment).
• Management could argue that some or all of the goodwill is impaired with the impact that net income would be reduced and the payment to Mr. Jones decreased.
• Mr. Jones and the buyer should agree on the status of the goodwill at the time the sale closes. At that time the goodwill should either be written down or off or the parties agree to no changes in how it accounted for.
• Manager compensation
• The new manager of Inuvik will be the son of the new owner.
• Compensation will be a related party transaction and may not be at all related to the market value of the work the son does.
• Son could be significantly overpaid to reduce income and reduce the amount that would have to be paid to Mr. Jones.
• Earnout agreement should specify an appropriate wage for the manager, or not include manager compensation in the earnout calculation