Nec Electronics Corporation (Nece) Case Study Essay

INTRODUCTION In early July 2007, the New York based hedge fund Perry Capital proposed to raise its stake in NEC Electronics Corporation (NECE), the then publicly listed subsidiary of Japanese conglomerate, NEC Corporation, from 4.8 percent to 25 percent. The offering was  ¥5,000 a share, at about 60 percent premium. Perry’s investment in NECE traced back to late 2005, the year its first exposure to Asian markets, with the initial investment cost at around  ¥3,200 a share. Perry believed the intrinsic value of NECE was to release after restructuring its business strategy, albeit NECE was expected a loss in FY2005. This paper studies the investment of Perry Capital in NECE, and particularly looks at Perry’s consideration to increase its stake in NECE to 25% at that time. INVESTMENT OPPORTUNITIES IN JAPAN As shown in Exhibit 1, the long-lasting deflationary Japanese economy since 1997 probably comes to an end with its CPI rebounded from negative in 2006. At the same time, Bank of Japan has loosed its monetary policy by raising the interest rate above zero since 2006. These two data suggest that Japanese economy is pending an exit from the lost decade. Looking at the Nikkei 225 index shown in Exhibit 2, the bullish trend since 2003 shows the investors are optimistic towards companies’ future earnings. The improving market sentiment stems from the amelioration of Japanese economy, with its GDP growth rate has become positive since 2000, as shown in Exhibit 3. Moreover, Japan’s export industries have been performing well due to its weak currency. Perry’s investment in NECE can be a sensible move as Japan is one of the leading countries in producing innovative technological products. In 2007, Japanese high-tech products secure a significant market share in the world. These industries include automobile, IT, communications, mechanism and robot, new materials, etc. In addition, Japanese firms allocate significant amount of resources in their product R&D area, the efforts paid in improving product quality and promoting innovation enhance Japanese firms’ competitive strength overtime. Essentially, Perry’s investment philosophy is looking at the fundamental of the company, building good relationship with the management, investing in good company, and possibly keeping its portfolio beta at a considerably low level. As Perry’s portfolio has been performing well since its inception, the venture into Japanese market is compliant with its investment strategy, where stocks in Japanese market produce reliable streams of cash flow, and more importantly, there are valuable cheap stocks to pick in Japanese market, these characteristics are aligned to Perry’s taste. CHALLENGES TO INVEST IN JAPAN The first time venture suggests Perry is novel to the Japanese market. As the probability of success of Perry’s investment in NECE highly depends on the assumption made to restructure NECE’s business division, Perry must convince the parent company NEC to share its vision. Agency problem would be a potential challenge for Perry to maintain a good relationship with NEC. As the subsidiary will become a separate entity from its parent company upon listing, it is questionable whether the parent company will longer treat the two different entities equivalently. For instance, will the parent company shift the loss-making divisions to its subsidiary, which then can help the parent company to get rid of loss at the expense of its subsidiary’s financial report? Furthermore, Japan’s system of corporate governance is said lacks of effective protection to minority shareholders. Controlling shareholders in Japan are not required to prove that their dealings with the company are fair, and self-dealing is not formally defined by law. Furthermore, in Japanese model of stakeholder capitalism, management could be entrusted to safeguard the interest of a range of key shareholders, rather than focusing more narrowly on maximizing returns to shareholders, which might weaken minority shareholders’ power in deciding an important issue. FUNDAMENTAL VALUE OF NEC ELETRONICS CORPORATION Perry team made a few assumptions to evaluate NECE in early 2006. Since the exact date of evaluation is not clearly stated in the case, we will first evaluate NECE at 2007 based on the assumptions made and then apply the same methodology to other years. Team Perry used an approach that employed EBITDA multiples for each segment: MCU, CCD and Communications. We use the information from exhibit 7 and exhibit 8 to infer the fundamental value from 2004 to 2007 and future. We then make inference on value of NECE based on 03/2006 and 03/2007 values. Note that information from exhibit 6 and 8 are from 2007. Fundamental Value of NECE at 03/2007 Assumptions used in valuing MCU division: I. MCU is able to match the average EBIT margins of comparable firms, which is 17.70%. II. 15% of the  ¥83 billion depreciation cost is attributed to MCU for the next few years. III. A conservative approach of 9 times EBITDA multiples is used. Assumptions used in valuing CCD division: I. EBIT margins of the remaining business are 5%. II. 45% of the  ¥83 billion depreciation cost is attributed to MCU for the next few years. III. 7 times of the EBITDA multiples is used. Assumptions used in valuing communications division: I. EBIT margins could be negative. II. To avoid loss, exiting this line is an attractive option. III. Estimated cost of exit at most  ¥100 billion. The fundamental value of NECE on 03/2007 is the summation of each division’s fundamental value: Note that the Fundamental value is higher from year 2005 to 2007 except year 2004. EVALUATION ON ASSUMPTIONS USED The first assumption expects MCU would be able to match the EBIT margins of comparable firms. However, there is a large dispersion in the EBIT margins among the comparable firms. The large difference of EBIT margins between the comparable firms could suggests that the cost differentials are significant among these firms. Indeed, the uneven distribution of EBIT margins among comparable firms could also because of the small number of sample size used, which in turn soften the estimation power of this assumption. The second assumption is to give the CCD EBIT margins of 5%. However, as the average EBIT margins of the comparable firms is around 16%, with the range between 7.3% to 42.3%, Ercil’s might probably be too conservative than he should in valuing the CCD segment in NECE. Moreover, Ercil also assumes that he will be able to exit the communication segment at a cost less than 100b which is again a conservative estimation as mentioned in the case. Given the above these assumptions made by Ercil, it seems that he is a conservative investor who prefers to take conservative valuation in his investment discretion. Though his conservatism might make the estimated NECE fair value become less attractive, his prudent investment strategy could probably in turn safeguard his clients’ money in any unfavorable event. Below shows some assumptions made by Ercil that are reasonable. First, instead of using 11x EBITDA multiples to value NECE’s MCU segment, Ercil used a lower of 9x EBITDA multiples. This assumption is definitely acceptable as it is in line with Perry team’s prudent investment strategy. In addition, the depreciation cost allocation made by Ercil seems reasonable. Ercil allocated 45% of depreciation cost into the communications segment, as there was a significant amount of capex used to build the plant in Yamagata in the recent past. Based on Ercil’s assumptions we manage to breakdown NECE balance sheets based on its divisions. This activity illustrates that the EBIT margin estimates are consistent with exhibit 8 and has no mathematical or financial discrepancies in terms of amount allocated to each sectors. EBIT margin for communications segment is indeed negative for year 2007 based on Ercil’s assumption. We observe high expense in communications area possibly due to expropriation of NECE by its parent company, NECE that will be discussed below. POTENTIAL AGENCY PROBLEM ON NECE’s MARKET VALUE Our case analysis assumes that market is efficient, implicating that outsider anticipate potential agency problem within NECE. Besides demanding fair return on their capital, controlling shareholders should ultimately bear all agency costs they create. This is consistent with the journal â€Å"Agency Costs, Mispricing and Ownership Structure† by Sergey, Fritz and Greenwood (Sergey Chernenko, 2010), whereby the case of NECE is used to illustrate the impact of agency cost on market value. Agency problems in subsidiary-parent relationships could stem from 3 scenarios: I. Related party transactions: Based on the journal, following NECE listing in 2003, the development of microchips for NEC’s phone brought in excessively high capital expenditures and research and development expenses to NECE. Following it was the low transfer prices to the parent company, NEC. This is due to the weak fiduciaries duties law on company in the interest of minority shareholders. II. Usurped business opportunities: Indirect influence of parent company on their subsidiaries such as continuing a business venture that profits the parent despite the subsidiaries making losses make it hard to be detected. In particular, NECE incurred excessive R&D cost and capital expenditures to enhance NEC competitive position in the market. III. Minority squeeze outs- Cash-out merger is an example of minority investors being squeezed out. NEC bought back NEC System Technologies 20 months after listing it, evidently showing NEC’s involvement in this form of related party transaction. Based on the journal’s samples, Investors who bought the subsidiaries share upon listing sold their shares back to the parent during repurchase at a loss of 39% to 71%. Therefore, in perfectly efficient market, minority shareholders fully anticipate agency problems. If controlling shareholder is expected to divert resources, the market will price the equity accordingly (lower) than in the scenario where agency problem is absent. One caveat is that, investors might not be fully informed (market is not totally efficient) that in turn creating incentive for agency problems. PROSPECTS OF NECE The fundamental value of NECE is severely undervalued compared to its market value in 2007; this might be due to the agency problem that persisted between NEC-NECE. We conclude that NECE is a potential lucrative investment if Ercil is able to remove the communications segment and thereby removing the potential agency problem in NECE. Nevertheless, the reluctance of NEC to remove the communications segment and the weak protection of minority interest in Japan cast shadow on the prospects on NECE. Worsening the situation, NECE was nearly delisted in 2007, implying that liquidity could have drastically decreased. Note that also the MCU and Other Divisions remains relative stable (slight increase) over the projection years. Historical Performance of Publicly Listed Subsidiaries of Parents in Japan Our findings are consistent with the data given in Exhibit 4. If market is efficient, the incentives for parent company to list its subsidiaries arise either when the market value of subsidiaries is overpriced upon listing or if the parent company’s internal capital is inadequate to fund attractive investment opportunities. In the case NECE, the former scenarios seem to be more plausible as according to the graph above. This could lead to drop in future market performance as market absorbs more information. Source: http://www.nber.org/papers/w15910 According to Fritz (2010), the negative performance of listed subsidiaries over the first 36 months following IPO can be seen via industry adjusted returns of -6.2%,-13.43% and -13.98% over the one-,two- and three year horizons after IPO. This is again consistent with the case of NECE. Both subsidiaries with ex ante scope for agency problem (such as sales relationship) and those where parent has retained little equity despite substantial control over its subsidiaries illustrated poorer performance. On top of that, a great portion of listed subsidiaries were subsequently repurchased by their parent at a discount to the IPO price. The historical performance of publicly listed subsidiaries of parents is consistent with the case of NECE. In this case, NEC hold 20% of NECE total equity but have significant control over NECE operations and sales. This leads to expropriation of minority shareholders and lower market price following IPO. A FEASIBLE STRATEGY FOR PERRY TEAM There are three options for Perry team: to increase its stake in NECE with the expectation that NEC management will eventually share Perry’s vision to dispose the communications segment; to arrange for possible merger and acquisition for NECE; to exit the investment in NECE. To consider the action on the $150 million position in NECE, Ercil is likely to expect the maximum likelihood among these three scenarios. The first option is essentially the proposed increasing stake in NECE by Perry in the case. However, this move requires substantial amount of capital to fund the investment; the investment does not necessarily realize Perry’s objective to dispose NECE’s communications division as NEC will still be the largest shareholder in NECE. Since the investment in NECE in 2006, Perry team has been approaching NEC and asking for NECE business restructuring, the two parties have yet reached a consensus about the issue. It seems that NEC executives are unlikely to change their position in the future as well. The second option is to create a proxy fight for possible takeover or merger of NECE. The biggest impediment in this strategy is the same as the first strategy – the parent company NEC is holding a controlling amount of 70 percent stake its subsidiary, proxy fight might be too costly to execute. Furthermore, it is generally believed this strategy is far from reality because a hostile acquisition for NECE would significantly destroy the business relationship between the acquirer firm and the giant conglomerate, NEC. In addition, it is the time where Tokyo Stock Exchange is placing NECE on a watchlist for possible delisting due to its concentrated ownership structure. For Perry team, unwinding the 5 percent stake (or more if either option 1 or option 2 is adopted) in NECE would mean more difficult after delisting. Perry needs to find a potential buyer for the whole or portion its holdings in NECE. Exit strategy implies to realize the loss in this investment. Suppose Perry bought NECE stocks at an average price of  ¥3,200 per share, NECE share price is around  ¥2,900 per share in July 2007, which means Perry will record a loss of about 10 percent in its investment in NECE. As NECE has been recorded loss during Perry’s investment period, this small 10 percent loss may in turn support the immediate exit strategy, so as to minimize the loss because NECE’s business prospects are full of uncertainties. SCREENING GLOBAL ECONOMIC CONDITION Before making the final decision among the above three options, Ercil will definitely examine the current global economic condition. Generally speaking, if the global market sentiment is positive, it may worth for a riskier investment strategy to seek for higher return. On the contrary, higher return investment securities such as equities markets are usually too risky to attract capital inflow. As government bonds are deemed safe haven for investors, bonds yield curve can give some signal about the likelihood of future economic condition. Ercil examine the U.S. government bonds yield curves and TED spread at that time. It is observed that the T-bills have begun to deviate downward from T-bonds since Q1/2007 (Exhibit 5). Soon after July 2007, TED spread begins to rise (Exhibit 6). The declining short term T-bills yield suggests the investors become cautious and allocate their money in the bonds market. The increasing TED spread may infer the condition of liquidity shortage in the market, where lenders require higher returns for lending out their money. According to bonds yield equation: Forward Rate=Expected Discount Rate Tomorrow+Liquidity Premium As TED spread implies liquidity premium becomes dearer, the declining T-bills yield is attributed to the expected fall in future interest rate in the U.S. market. Simply saying, market anticipates a loosening monetary policy adopted by the Federal Reserve. RECOVER LOSS: JPY/USD EXCHANGE RATE INCREASE While the exit strategy might be a better move after looking at global market sentiment, Ercil will consider whether he should immediately convert the JPY to USD. As exchange rate movement is closely related to interest rate movement between two countries, it is observed that Japan’s interest rate is at 0.50% (Figure 1) while U.S. interest rate is around 5% (Exhibit 7). The huge differential between the two countries interest rate infers the potential gain from going against USD. In addition, given the interest rate parity condition in Forex market, the expected decrease in U.S. interest rate (as the declining yields curves suggest) will probably result in the appreciation of JPY against USD, as shown in Figure 8. In conclusion, if there could be a potential gain from holding JPY against USD, which can in turn recover some of the loss from Perry’s investment in NECE. By holding JPY, Ercil probably can go for his conservative investment strategy by buying fixed income securities, gold and other safer investment assets, or just holding cash. If JPY/USD does not perform as what Ercil predicted, he will only face one side risk (the continual increase in U.S. interest rate that further pumps up USD/JPY) but is protected from the continual decline of JPY (as Japan’s interest rate is near zero that means Bank of Japan is effectively powerless in pushing down its interest rate).

Nike Essay

1.What is the WACC and why is it important to estimate a firm’s cost of capital? Do you agree with Joanna Cohen’s WACC calculation? Why or why not? Answer: The cost of capital refers to the maximum rate of return a firm must earn on its investment so that the market value of company’s equity shares will not drop. This is a consonance with the overall firm’s objective of wealth maximization. WACC is a calculation of a firm’s cost of capital in which each category of capital is proportionately weighted. All capital sources – common stock, preferred stock, bonds and any other long-term debt – are included in a WACC calculation. All else equal, the WACC of a firm increases as the beta and rate of return on equity increases, as an increase in WACC notes a decrease in valuation and a higher risk. The WACC of a firm is a very important both to the stock market for stock valuation purposes and to the company’s management for capital budgeting purposes. In an analysis of a potential investment by the company, investment projects that have an expected return that is greater than the company’s WACC will generate additional free cash flow and will create positive net present value for stock owners. Thus, since the WACC is the minimum rate of return required by capital providers, the managers in the company should invest in the projects which generate returns in excess of WACC. We do not agree with Joanna Cohen’s calculation regarding the WACC from 3 aspects: 1) When Joanna Cohen computed the weights or proportions of debt and equity, she used the book value rather than the market value. The book values are historical data, not current ones; on the contrary, the market recalculates the values of each type of capital on a continuous basis, therefore, market values are more appropriate. 2) The cost of debt should not be calculated by â€Å"taking total interest expense for the year 2001 and dividing it by the company’s average debt balance. These historical data would not reflect Nike’s current or future cost of debt. 3) She mistakenly used the average Beta from year 1996 to 2001. The average Beta could not represent the future systemic risk, and we should find the most recent Beta as Beta estimate in this situation. 2.If you do not agree with Cohen’s analysis, calculate your own WACC for Nike and be prepared to justify your assumptions. Answer: 1)Weights of equity and debt: Market value of equity = Current share price x Current shares outstanding = $42.09 x 271.5m = $11,427.44m Due to the lack information of market value of debt, we could use the book value for calculation: Market value of debt = Current portion of long-term debt + Notes payable + Long-term debt = $5.4m + $855.3m + $435.9m = $1,296.6m We = $11,427.44m/($11,427.44m +$1,296.6m) = 89.81% Wd = $1,296.6m/($11,427.44m +$1,296.6m) = 10.19% 2)Cost of Debt: We can calculate the current yield to maturity of the Nike’s bond to represent Nike’s current cost of debt. Po=$95.6 N=20Ãâ€"2=40 PAR=$100 PMT=$100Ãâ€"6.75%/2=3.375 By using financial calculator: r=3.58%(semiannual) So Rd=3.58% x 2 = 7.16% 3)Cost of Equity: Use 20-year T-bond rate to represent risk-free rate, as the rate of return of a T-bond with 20 years maturity is the longest rate which is available right now. So Rf=5.74% Use a geometric mean of market risk premium 5.9% as Market Risk Premium As we mentioned in Q1, the most recent beta will most relevant in this respect, so we will use B=0.69 Re=Rf+B(Market Risk Premium) =0.0574 + 0.69Ãâ€"0.059 = 9.81% 4)WACC: Use tax rate = US statutory tax rate + state tax = 35% + 3% = 38% WACC=Wd x Rd x (1-T) + We x Re = 10.19% x 7.16% x (1- 38%) + 89.81% x 9.81% = 9.26% 3.Calculate the costs of equity using CAPM, and the dividend discount model. What are the advantages and disadvantages of each model? Answer: 1)Cost of Equity using CAPM: Market Risk Free Rate (Rf)= 5.74% (20-year yield on US Treasuries) Beta (B) = .69 (most recent beta used as most relevant beta to calculate Nike’s valuation) Market Risk Premium = 5.9% (Geometric Mean used as Historic Equity Risk Premium) Cost of Equity using CAPM = Re = Rf + B(Market Risk Premium) Re = 9.81% = 5.74% + .69(5.9%) Advantages: -CAPM includes systematic risk by incorporating Beta in the Cost of Equity formula. Using the stock’s Beta to calculate equity will provide a return rate based on how risky the stock is perceived by investors. The higher the risk, the higher the Beta will be and will result in a higher required rate of return on the investment. Systematic risk can’t be diversified away, while unsystematic risk can be diversified away by maintaining a diversified portfolio. -CAPM proves to be a better model than others such as the Dividend Discount Model, because the valuation behind CAPM is based on risk and rates of return while the Dividend Discount Model relies heavily on dividends and a growth rate. Disadvantages: -When using CAPM, it can be difficult determining the estimate of Beta. Different investments may involve different risks and the Beta used in calculating CAPM should reflect the appropriate amount of risk relating to the specific investment. -The risk free rates used in calculating CAPM are continually changing as with the values of the investments in the market which make up the market risk premium. The constant changes in the market can have negative impacts on the valuation of CAPM. -Another disadvantage in using the CAPM in investment appraisal is that investment appraisal is premised on a long-term time horizon, whereas CAPM assumes a single-period time horizon, i.e. a holding period of one year. While CAPM variables can be assumed constant in successive future periods, market reality often shows that this is not the case. 2)Cost of Equity using the Dividend Discount Model: Growth (g) = 5.5% Dividend (D0) = $.48 Share Price (P0) = $42.09 Cost of Equity using Dividend Discount Model = Re = (D0 x (1+g)/P0) +g Re = 6.7% = (.48 x (1+5.5%)/42.09+5.5% Advantages: -Using the Dividend Discount Model is very easy to calculate because the formula is not complicated. There are no real technical or difficult calculations involved with using this method. -The inputs that are used in the calculations of this model are market information and can be easily obtained. -The Dividend discount model attempts to put a valuation on shares, based on forecasts of the sums to be paid out to investors. This should, in theory, provide a very solid basis to determine the share’s true value in present terms. Disadvantages: -The Dividend Discount Model relies heavily on the growth rate to calculate the rate of return. If growth slows or becomes temporarily negative, it can result in calculations which may not truly represent future expected returns. -This model is calculated using dividends and can’t be used in instances where a company is not paying dividends. This is also a disadvantage for any investment without a reasonably constant growing dividend stream. -The Dividend Discount Model is very sensitive to minor changes in input figures. If the growth rate changes by 1 % the cost of equity will also change by that rate. -The Dividend Discount Model does not explicitly consider the risks which the company faces. 4.What should Kimi Ford recommend regarding an investment in Nike? Answer: In order for Kimi Ford to make a decision regarding an investment in Nike, she must compare an accurately calculated WACC to the sensitivity of equity  value to discount rate chart shown in Exhibit #2. The sensitivity chart in Exhibit #2 states that at a discount rate of 11.17%, Nike’s current share price is fairly valued at $42.09. If a discount rate were to be calculated below 11.17% then the Nike shares would be under-valued in the current market, but if their discount rate were higher than the 11.17% Nike share price would be considered over-valued when compared to the current share price. When we calculated Nike’s discount rate, we determined that their appropriate WACC should be 9.26%. Since this WACC of 9.26% is below 11.17%, we believe that Nike’s shares are currently under-valued in the market. We believe that Nike’s equity value based on the WACC of 9.26% should fall somewhere between $55.68 and $61.25. Kiki Ford should recommend adding Nike sh ares to the NorthPoint Large-Cap Fund based on our analysis. 03/03/2011 CASE OVERVIEW Kimi Ford is a portfolio manager at a large mutual-fund management firm called, NorthPoint Group. Ford is considering the addition of Nike Inc. to the Large-Cap Fund at NorthPoint Group. Nike’s share price has notably declined since the beginning of the year. Her decision whether or not to add Nike to the portfolio should be made by looking at the 2001 fiscal year end 10-K report. In 1997 Nike’s revenues plateaued around $9 billion while net income had fallen from around $800 million to $580 million. Also, from 1997-2000 Nike’s market share in U.S. athletic shoes fell from 48% to 42%. Supply-chain issues and the adverse effect of a strong dollar had negatively affected revenue in recent years. At the June 28, 2001 analyst meeting Nike planned to add both top-line growth and operating performance. One goal was to develop more mispriced ($70-$90) athletic shoes and the other to push its apparel line. At this meeting a target long-term revenue growth rate between 8%-10% was given and an earnings-growth target above 15%. After reviewing all the analysts’ reports about the June 28th meeting Ford  still did not have a clear picture of how to value Nike. Ford then performed her own sensitivity analysis which revealed Nike was undervalued at discount rates below 11.17%. WHAT IS THE WACC? A firm derives its assets by either raising debt or equity or both. There are costs associated with raising capital and WACC is an average figure used to indicate the cost of financing a company’s asset base. More formally, the weighted average cost of capital (WACC) is the rate that a company is expected to pay to debt holders and shareholders to finance its assets. Companies raise money from a number of sources so the WACC is the minimum return that a company must earn on existing asset base to satisfy its creditors, owners, and other providers of capital. WACC is calculated taking into account the relative weights of each component of the capital structure which means it is the proportional average of each category of capital inside a firm. This rate, also called the discount rate, is used in evaluating whether a project is feasible or not in the net present value (NPV) analysis, or in assessing the value of an asset. WACC = [Wdebt * Kdebt * (1-t)] + [Wequity * Kequity] + [Wpreferred * Kpreferred] K = component cost of capital W = weight of each component as percent of total capital t = marginal corporate tax rate WHY IS IT IMPORTANT TO ESTIMATE A FIRM’S COST OF CAPITAL? The cost of capital is an important issue from the perspective of management while taking a financial decision. We can list some basic issues related to the importance of WACC and its interpretation by firms: * The importance of the WACC is in its relation to the evaluation of projects. For a project to be feasible, not just profitable, it must generate a return higher than the cost of raising debt (Kd) and the cost of raising equity (Ke). WACC is affected not only by Re and Rd, but it also varies with capital structure. Since Rd is usually lower than Re, then the higher the debt level, the lower the WACC. This partly explains why firms usually prefer issuing debt first before they raise more equity. As part of their risk management processes, some companies add a risk factor to the WACC in order to include a risk cushion in their project evaluation. * The cost of capital is also important for the management while taking a decision about capital budgeting. Naturally, the project which gives a higher (satisfactory) return on investment compared to the cost of capital incurred for its financing would be chosen by the management. Cost of capital is the key factor in deciding which project to undertake out of different opportunities. * The cost of capital is significant in designing the firm’s capital structure. It will direct the management about adopting the most appropriate and economical capital structure for the firm which means the management may try to substitute the various methods of finance to minimize the cost of capital so as to increase the market price and the earning per share. * The cost of capital is also an important factor for taking a decision about the soundest method of financing for the company whenever the company requires additional finance. The management may try to catch the source of finance which bears the minimum cost of capital. * The cost of capital can be used to evaluate the financial performance of the top management by comparing actual profitability’s of the projects and the projected overall cost of capital and an appraisal of the actual cost incurred in raising the required funds. DO WE AGREE WITH JOANNA COHEN’S WACC CALCULATION? WHY OR WHY NOT? We do not completely agree with Joanna Cohen’s calculation of WACC. There are  several problems in her calculation; * In Cohen’s calculation, she used the book value for the weights of each capital structure component (debt and equity). Book value of equity should not be used when calculating cost of capital. Instead she should have calculated the market value of equity. Also, she should have discounted the value of long-term debt that appears on the balance sheet to find the market value of debt (even if the book value of debt is accepted as an estimate of market value). * Also, she should have considered the preferred stock while calculating the weights of the components of capital structure (the redeemable preferred stock is relatively small in Nike’s capital structure so it doesn’t affect the weights). * Another problem with her calculation is about the cost of debt. Cohen used a cost of debt which is even lower than treasury yield. In common sense, a company, even it might be a large AAA firm, should be risky than US government. Cost of debt should be calculated by finding the yield to maturity on 20-year Nike Inc. debt with current coupon rate paid semi-annually instead of by taking total interest expense for 2001 and dividing it by the company’s average debt balance. USING SINGLE OR MULTIPLE COSTS OF CAPITAL IS APPROPRIATE FOR NIKE INC.? Even Nike Inc. has multiple business segments such as footwear, apparel, sports equipment and some non-Nike-branded products (which accounts for relatively small fraction of revenues), we assumed Nike Inc. to have a single cost of capital since its multiple business segments are not very different and would experience similar risks and betas. WHICH EQUITY RISK PREMIUM SHOULD BE USED TO DETERMINE THE COST OF CAPITAL? For the cost of capital, the geometric mean is a better alternative to the arithmetic mean. Furthermore, the geometric mean is a more conservative  measure to use compared to the arithmetic mean. The average market risk premium has fluctuated by large amounts in short time periods from 1926-1999. 1926-1929 saw high market risk premiums; however, the 1930s and 1970s saw very low market risk premiums. Therefore, we use the geometric mean since it is a better measurement compared to arithmetic mean when the measured period is longer and contains more fluctuations. VALUE OF EQUITY, VALUE OF DEBT AND WEIGHTINGS OF EACH COMPONENT | Value(in millions $)| Weight| Current Portion of Long term Debt| 5.40| 0.04%| Notes Payable| 855.30| 6.73%| Long-Term Debt| 416.72| 3.28%| Total Debt| 1,277.42| 10.05%| Equity| 11,427.44| 89.95%| Table 1. The weight of debt and equity in total capital of Nike CALCULATION OF THE COST OF EQUITY UNDER DIFFERENT METHODS AND ADVANTAGES AND DISADVANTAGES OF EACH METHOD 1. Capital Asset Pricing Model (CAPM) Under CAPM we can find the cost of equity as; Ke = Rf + Betai * Equity Risk Premium The first issue is to find an appropriate risk-free rate. We think the 20-year yields on treasures would be the one because NIKE is assumed to be operated for such long time, according to the revitalizing strategy proposed by the management and the long-term debt issued. Next is to determine the beta. The historic betas has been generally decreasing, and we assume it is the market condition and management`s purpose that make NIKE to be a defensive company. Furthermore, we find that the competitors such as K-Swiss and Lacrosse also have beta less than one.  So rather than the average, we use the YTD beta into calculation. On the other hand, since the beta has been found to be on average closer to the mean value of 1, which is the beta of an average-systematic-risk security, we calculate the adjusted beta, giving two-third weight to the YTD beta and one-third weight to 1. Regarding the risk premium, we use the geometric mean since it is a better measurement compared to arithmetic mean when the measured period is longer and contains more fluctuations. Combining the above information, we calculate the cost of equity as follows: Using YTD Beta => 5.74% + 0.69*5.9% = 9.81% Using Adjusted Beta => 5.74% + [(2/3)*0.69 + (1/3)*1)]*5.9% = 10.42% Advantages: * It provides an economically grounded and relatively objective procedure * It concentrates on the systematic risk that investors can`t avoid, rather than unsystematic risk that can be avoided through diversification * It is suitable for company that doesn`t pay dividend * It is widely used. Disadvantages: * The assumptions may not be realistic. For example, investors may not be all risk averse and rational that holds efficient portfolio * Investors may concern more than just market risk. 2. Dividend Discount Model (DDM) Under DDM we can find the cost of equity as; Ke = (D1/P0) + g Ke = (0.48*1.055/42.09) + 5.5% = 6.70% Here we assume NIKE will pay dividend at constant growth rate of 5.5% which forecasted by Value Line, so we use the Gordon growth model to derive required rate of return. Advantages: * It is simple and widely used * Can be used to infer implied required rate of return * It is helpful to perform a sensitivity analysis on the inputs Disadvantages: * It is not suitable for company that doesn`t pay consistent dividends or the dividends are not tied to profitability * It is suitable for only matured company 3. Earnings Capitalization Ratio (ECM) Under ECM we can find the cost of equity as; Ke = E1/P0 Ke = 2.32/42.09 = 5.51% Advantage: * Simple Disadvantages: * It assumes the earnings would be the same in the future, which may not be true * It doesn`t take the growth of company into consideration. Cost of Equity| | | CAPM| | | | Risk-free Rate| 5.74%| | Equity Risk Premium| 5.90%| | Year-to-Date Beta| 0.69| | Adjusted Beta| 0.79| | Cost of Equity with YTD Beta| 9.81%| | Cost of Equity with Adjusted Beta| 10.42%| | | | DDM| | | | Current Dividend| 0.48| | Growth Rate| 5.50%| | Current Stock Price| 42.09| | Forecasted Dividend| 0.5064| | Cost of Equity| 6.70%| | | | ECM| | | | Consensus Earnings Estimate| 2.32| | Current Stock Price| 42.09| | Cost of Equity| 5.51%| | | | Build-up Method| | | | Risk-free Rate| 5.74%| | Equity Risk Premium| 5.90%| | Cost of Equity| 11.64%| Table 2. Cost of Equity under different methods WHICH RATE AS RISK FREE RATE IS BEST FOR NOTES PAYABLE AND LONG-TERM DEBT? For long term debt, the 20-year yield on U.S. Treasuries is best as the risk free rate. Considering the long time horizon of Nike, a 20-year bond is property. And also, it is comparable to the current 25-year bond which Nike issued 5 years ago. Although Nike’s current bond is 25 years, we could consider it as a 20-year bond issued this year, and use the current price to calculate the 20-year bond YTM. And for short term debt, because the note payable was a major portion in the debt structure, the 1-year treasuries would be preferred as risk free rate. COST OF DEBT CALCULATION FOR NIKE We could not agree with Cohen’s analysis. Because Cohen used a cost of debt which is even lower than treasury yield. In common sense, a company, even it might be a large AAA firm, should be risky than US government. First, Cohen’s emphasis that last year, the effective cost of debt of Nike was less than treasury yield due to its Japanese Yen notes. However, the rates of debt based on currency change are unstable and non-repeatable. We could reasonable consider that Nike’s last year’s low cost of debt is a kind of arbitrage by chance. Second, to calculate the cost of debt, market value of debt should be used rather than the book value used by Cohen. The market value of debt is compounded by the current portion of long-term debt, notes payable, and long- term debt discounted at Nike’s current coupon. Therefore, we would like to recalculate the cost of debt. Cost of debt was calculated by using the current liquidated 20-year bond of Nike, Inc. with a 6.75% coupon semi-annually. Then we obtain a cost of long term debt before tax as 7.17%, and cost of short term debt before tax as 5.02%. As shown above in Table 1, short term debt took a significant portion in Nike’s debt structure; therefore, we use a weighted cost of debt to combine both long term and short term debt effects as in following equation: Here is the weight of short-term debt, while is the weight of long-term debt. And both cost of short-term and long-term debt are after tax. Cost of Debt| | | Long Term Debt| | | | Coupon Rate| 6.75%| | Time to Maturity| 40| | Current Stock Price| $95.60| | Cost of Debt| 7.17%| | After Tax Cost of Debt| 4.44%| Short Term Debt| | | | 20-year Yield| 5.74%| | 1-year Yield| 3.59%| | Risk Premium| 1.43%| | Tax Rate| 38.00%| | Cost of Debt| 5.02%| | After Tax Cost of Debt| 3.11%| Final Weighted Cost of Debt After Tax| 0.36%| Table 2. Cost of debt WHAT IS OUR WACC CALCULATION FOR NIKE? Under different methods, we would obtain different cost of equity, then, definitely different WACCs which range from 5.31% to 10.83%. However, no matter which method we use, the stock price of Nike is undervalued currently. WACC| | | | Under CAPM with Adjusted Beta| 9.73%| | Under CAPM with YTD Beta| 9.18%| | Under DDM| 6.39%| | Under ECM| 5.31%| | Under Build-up Method| 10.83%| Table 4. Weighted Average Cost of Capital As shown in Table 5, the actual implied discount rate by current price is 11.17%, which is significantly beyond the range of WACCs we calculated and presented in Table 4. Therefore, in our analysis, Nike’s price would be considered as undervalued. Discount Rate| Equity Value| 8.00 %| $ 75.80| 8.50 %| 67.85| 9.00 %| 61.25| 9.50 %| 55.68| 10.00 %| 54.92| 10.50 %| 46.81| 11.00 %| 43.22| 11.17 %| 42.09| 11.50 %| 40.07| 12.00 %| 37.27| Table 5. Sensitivity test on WACCs RECOMMENDATION This graph shows the estimated value provided under different WACCs, and NIKE is currently trading at 42.09 with corresponding 11.17% WACC. So if the calculated WACC is below 11.17%, the estimated value would be higher than the current price and NIKE is undervalued; if the calculated WACC is beyond 11.17%, the estimated value would be lower than the current price and NIKE is overvalued. After adjusting the possible mistakes that Joanna made, the table shows the calculated WACC under each method: Method| WACC| CAPM (Adjusted Beta)| 9.73%| CAPM (YTD Beta)| 9.18%| DDM| 6.39%| ECM| 5.31%| Build-up| 10.83%| We can see none of them is above 11.17%, indicating NIKE is currently undervalued and Ford should add NIKE to the NorthPoint Large-Cap Fund. However, it is important to keep monitoring the revitalizing strategy that the management offered, since the future market condition may have huge impact on this strategy and hence, predicted future economic income. NorthPoint Group is a mutual fund management firm who has the preference on investing in Fortune 500 companies, such as EXXONMobil, GM, McDonald’s 3M and other large-cap. If we look back to a decade ago, the fund had performed extremely well compared to the market in general (we refer S&P500 to represent the market). Kimi Ford was the portfolio manager in NorthPoint Group, who was concerned about whether or not to add Nike, Inc. shares into her fund. Since net income and market share had been fallen from 1997, a new strategy was proclaimed by the Nike management team during the meeting held in June, 2001: First, highly priced products are no longer their only target, now they would develop the midpriced segment so that more customers will be able to afford it. Second, another way to boost the revenue is to focus on its apparel line, which they found out to be profitable. Finally, Nike needs to reduce its costs by exerting more effort on expense control. Company executives were optimistic about the long-term revenue, expecting an 8%~ 10% growths and earnings growth above 15%. Analysts had different opinion about the company prospects; Lehman Brothers suggested a strong buy while UBS and CSFB recommended a hold. Meanwhile, Ford wanted to make her own forecast so she developed a discount cash flow to determine that, at a discount rate of 12%, Nike was overvalued at its current price $42.09 and undervalued if the discount rate was below 11.17%. She asked her assistant, Joanna Cohen, to calculate the company’s cost of capital precisely. On the report, Joanna Cohen used WACC to calculate the cost of capital, where she adopted book values to obtain a proportion of 27% of debt and 73% of equity. For cost of debt, she took total interest expense divided by average debt balance which resulted lower than treasury yields. For cost of equity, she used 20-year Treasury bond as risk-free rate and 5.9% as market premium. Moreover, she divided each division by revenue, deciding to use one overall WACC. At the end, she came to a conclusion that the cost of capital for Nike, Inc was 8.4%.

Firm that Works in an Ecosystem Essay Example | Topics and Well Written Essays - 1500 words - 26

Firm that Works in an Ecosystem - Essay Example The document or text goes ahead to give an example of a firm that works in an ecosystem that is Intel cooperation. Intel works in a network with its suppliers or upstream (like ASML and Nikon) and distributors in order to be successful. However, unlike in the second document that does not state the consequence of participating in a certain activity, the first text explains that some firms work independently and do not share information with the ecosystem; as a result, they suffer from problems such as delays. This text focus on why inter-firm coordination and interaction of investment decisions is important. Further, it critically examines the kinds of inter-firm coordination accounting and information systems are designed to enable this coordination such as roadmaps. In addition, the first text centers entirely on the operation of the business. For instance, it asserts that It is important to identify rival firms and determine their weaknesses, strengths, opportunities, capabilities , objectives, threats, and strategies. Competitive intelligence is, therefore, the main determinant for the success of a business organization in a commercial environment. Weaknesses of competitors are an indication of external opportunities while the strengths of the competitors are the threats of a business organization. It is also important for a business organization to collect competitive information, as this would be advantageous in setting up strategies. On the other hand, the second text aims at educating the public why reviews are conducted and the government department responsible for carrying out this function.  In the end, they manage to deliver their message to the audience by convincing them to accept the information presented.

Singapore Essay Example | Topics and Well Written Essays - 2750 words

Singapore - Essay Example Singapore's main territory is a diamond-shaped island, although her territory includes surrounding smaller islands. Of Singapore's dozens of smaller islands, Jurong Island, Pulau Tekong, Pulau Ubin and Sentosa are the larger ones. Most of Singapore is no more than 15 meters above sea level. The highest point of Singapore is Bukit Timah, with a height of 164 m or 538 feet and made up of igneous rock, granite. Hills and valleys of sedimentary rock dominate the northwest, while the eastern region consists of sandy and flatter land (Geography and climate). Singapore does not have any natural lakes or rivers, however, reservoirs and water catchments areas were constructed to collect fresh water for Singapore's water supply. Singapore has reclaimed land with earth obtained from its own hills, the seabed, and neighboring countries. As a result, Singapore's land area has grown from 581.5 km in the 1960s to 697.1 km today, and may grow by another 100 km by 2030 (Geography and climate). Singapore has no noteworthy natural resources other than its deep-water harbor. Less than 5% of Singapore's land is used for agriculture; tropical fruits and vegetables are intensively cultivated and poultry and hogs are raised. There are no profitable natural resources in the country (Economy). Singapore was a trading center in the Srivijaya Empire before it was destroyed in the 14th cent. by the Majapahit empire. It later became part of Johore in the Malacca Sultanate. The thinly populated island was ceded (1819) to the British East India Company through the efforts of Sir T. Stamford Raffles; he founded the modern city of Singapore there that same year. In 1824, Singapore came under the complete control of the British and, although containing only a little fishing and trading village, quickly attracted Chinese and Malay merchants. The port grew quickly, soon overwhelming Penang and Malacca in importance. Then Singapore became part of the Straits Settlements in 1826 (The development of Singapore). Figure 2 Statue of Thomas Stamford Raffles by Thomas Woolner, erected at the spot where he first landed in Singapore (Singapore). The progress of Malaya under British rule in the late 19th and early 20th cent. made Singapore one of the most important ports of the world for the export of tin and rubber. The construction of a railroad through the Malay Peninsula to Bangkok swelled Singapore's trade, and the building of airports made it more than ever a communication center. A naval base at Sembawang, begun in 1924, was completed in 1938; the island, sometimes called the Malta of the East, was reinforced in the early days of World War II (The development of Singapore). After the speedy Japanese crusade in Malaya, however, Singapore was successfully attacked across the Johore Strait, and on Feb. 15, 1942, the British garrison surrendered; Singapore was reoccupied by the British in Sept. 1945. In 1946, Singapore, no longer a part of the Straits Settlements, was constituted a crown colony, with Christmas Island and the Cocos (Keeling) Islands. Following a decade of Communist terrorism, Singapore, separated from Chri stmas Island

Leadership Essay Example | Topics and Well Written Essays - 250 words - 61

Leadership - Essay Example His replacement of Ryan Graves as CEO was effective, as he has been considered to have a Steve Jobs mentality. Travis has been brash and resolute in overcoming challenges from local and federal regulators as well as established firms in the cab business that has propelled UBER to current success depicting the impact of leadership and management in the success of an organization. Having analysed importance of management in the success of UBER, fall of AERO depicts that lack of a management and leadership that is congruent with the needs of an organization results in its fall. The lack of leadership insight at AERO for changes in consumer needs, lack of innovation to meet consumer preferences and needs, and the inability of management and the leadership to anticipate changes in market conditions led to its fall. The fall of AERO is mainly due to the inability of the management to provide focus and depth in managerial decision-making and direction of the company in a dynamic business environment. Leadership in a company play a critical role in ensuring a company overcomes market challenges and provide a clear goal for the employees and lack of these leadership qualities at AERO resulted in its

Alcoholism Assignment Example | Topics and Well Written Essays - 250 words

Alcoholism - Assignment Example o a physiological need and that is where human physiology outraces human psychology or will power since even if the patient is aware of the habit or outcomes of the habit, the physiologic consequences of limiting alcohol consumption becomes almost unbearable without support hence the aim of a nurse is to intervene and support the patient. Being a RN responsible for care of such patients it is an obligation on my part to understand the needs of the patient without making any kind of assumption and keeping the dignity of the patient (NMC,2008). A RN needs to understand the want for mental, emotional and physiological support during withdrawal period and provide care accordingly. The aim is to support them in since the phase of withdrawal is extremely tough and in many cases converts into aggressive behavior. Care and safety of the patient also comes under the duty of a RN besides confidentiality. Psychological support must also be rendered to not only ensure that the patient gains enough mental strength to stop the intake of alcohol but also motivate the patient through the entire intervention

Intention Essay Example | Topics and Well Written Essays - 2500 words

Intention - Essay Example These elements are essential prerequisites for a valid creation of express trust. Trust being an arrangement, certainty of certain aspects must be present just as in a contract (Hudson, 2009). Certainty of intention The settlor should have actually intended to create a trust without giving an impression of imposing some moral obligations or gifting or acting in some other manner which cannot be a trust. As there is no prescribed wording for creation, courts are expected to examine what intention of the parties had been and whether those intentions are given effect to in the trust deed. The court is free to infer an intention from the circumstantial evidences including parties’ conduct. Thus, the inference may be had if the property owner shows a positive intention to share the beneficial ownership of his property with someone else, or if he transfers title of the property to a third party intending that he will hold it for the benefit of some other person. The intention must b e in the form of a trust deed and not as a gift or some other form. Though there are exceptions, written form is ideal to prove the existence of a trust and the certainty of intention. ... 950 he received as compensation for an injury, bank refused as they were not married. Hence, with the account in his sole name, he became the common law owner of the account. Later on the couple put both their monies in the same account and spent the money in the account for their common purposes. Once Mr Constance had told Mrs Paul â€Å"this money is as much yours as mine†. After Paul’s death, his wife claimed the money in the bank account stating that the balance in the account belonged to her husband and she was entitled to the bank account balance as per the Intestacy Rules. Although the widow of Mr Constance was entitled as his legal heir, court held his wordings â€Å"this money is as much yours as mine†. constituted an evidence to create a trust for the benefit of Mrs Paul as well as Mr Constance. The Court said that Mr Constance might have behaved in the manner above without being conscious of creating a trust and its legal implications. Courts are only uncovering an express trust and not imposing a constructive trust. In Re Kayford (1975), the mail order company, in anticipation of impending insolvency, set apart all advance payments from its customers in a separate bank account and withdrew from that account as and when supplies were made to each customer. This was done with the intention that in the event of becoming insolvency, customers’ monies not supplied with goods could be returned to them. When the issue arose as to whether the money in the separate account could be distributed to the existing creditors, the court held that the company had held the money in a separate account in trust for the benefit of unsupplied customers who had made advance payments. By creation of a separate account, the company’s intention to create a trust

Investigative task force proposal Term Paper Example | Topics and Well Written Essays - 2500 words

Investigative task force proposal - Term Paper Example ry procedures for the research and proper investigation of digital evidence.to develop a state of the art center that will be able to offer impeccable services. The unit will be fully equipped with a cyber-forensics laboratory which will specialize in digital evidence recovery, and which will also the facilitation of computer investigative training and development of forensic skills. The devices incorporated will be able to manage a larger volume of data faster in the course of an investigation and also uncover information that couldn’t be discovered with traditional forensic tools. Steps towards the creation of a cyber-investigative unit would be to assess the needs of the department and make a decision, to establish a legal basis in the establishment, appoint a manager for the cyber investigation unit, to staff the unit, to provide for the equipment and other resources required in the unit, to facilitate a training program for this unit and to have an action plan in developing the cyber investigative unit. As the technology is continually used to commit crimes and the numbers of such cases keeps on raising then each police departme nt will ultimately reach a point where it will have to decide if the time is right to establish a cyber-investigative unit with forensic capabilities The cyber investigative unit will include a training department, an investigative joint task force, an analytic group, future exploration department and people responsible for collaborative data sharing. Whether the goal is to establish a full time unit or entitle individual investigators in particular areas to respond as required, prior evaluation assessment, planning and preparation are elements indispensable to success. The following is a proposal for the establishment of the specialized unit in the police department. The department will facilitate the provision of a training programmer to equip the new cyber investigative unit with investigators, supervisors, analysts and outside

Managing Across Cultures Essay Example | Topics and Well Written Essays - 500 words - 5

Managing Across Cultures - Essay Example Preparation is the first step in the process of negotiation. According to Metcalf et al (2006), at this stage the parties involved in the negotiation get build some background to the negotiation. The individuals intending to enter into the negotiation try to get the necessary information that may be required to make the negotiation successful. Therefore, the individuals get to research and get to get enough understanding of what they are going to undergo. As part of their preparation the individuals try to analyze the appropriate methods of persuading the other party and how to bargain in the negotiation. Therefore, this can be influenced by some cultural aspects. Decision on the method of bargaining and how to communicate will depend on the cultures of the different individuals involved in the negotiation. This is the second stage in the process of negotiation. After preparing for the entire negotiation, individuals should take time to get to know each other before proceeding for the planned negotiation (Metcalf et al, 2006). Therefore, how the different individuals will get to interact and relate in different occasions will be affected by their cultures. For example, the attitudes towards each other may differ as they get to interact due to different cultural mind-sets or the general national attitude towards time from the different individuals. After the different parties or individuals have prepared enough and have gotten to build their relationship, the next step to the negotiation is coming to the real negotiation where both sides exchange information. The different sides present the information it has and states its position concerning the issue or matter of negotiation. At this stage then cultural aspects can have an impact or great influence on the mode of present or how the parties will respond to each other (Trompenaars and Hampden-Turne, 2012). For example, if the parties are French nationals they will prefer to present their views in a

Memorial Day for Iraq and Afghanistan Essay Example for Free

Memorial Day for Iraq and Afghanistan Essay The current wars in Iraq and Afghanistan are a very big problem. Anyone will look at it as a serious peace concern. However, since any problems will also become solved in the future, it is a good thing that we have a fitting memorial when there is already peace in both countries. To memorialize the peace in Iraq and Afghanistan, there should be a dedicated date of holiday celebration. This day must be remembered as the liberating day for the people of Iraq and Afghanistan. There should be celebrations and that all people must have a break from their work and schools. It should be a national holiday for the two countries. It is also a good idea if both countries will build a monument in their capital cities. The monument should represent peace. It is very similar to the American War monument in Washington USA. Lastly, there should be a program of the Memorial Day. It means there must be parades and special public programs during the holiday event. A simple parade that will have children and youth participate so that they represent the future of peaceful nations in Iraq and Afghanistan. This will be simple but very significant. We all know that the peaceful days in our nation are very important to remember. We can have memorial days or independence days. But no matter what our plans of celebrating them, we should always memorialize the important contributions of people who sacrificed their lives for peace in our country.

The Concept Of Governmentality

The Concept Of Governmentality The concept of governmentality is a neologism used by Michel Foucault in his work on modern forms of political power. It is a term that combines government and rationality, suggesting a form of political analysis that focuses on the forms of knowledge that make objects visible and available for governing. In Foucaults terms, governmentality refers to a distinctive modality for exercising power, one which is not reducible to the state. Governmentality is understood to work at a distance by seeking to shape the conduct of conduct. This in turn implies that governmentality refers to a wide range of points of application, including fields of action not ordinarily thought of as political, such as medicine, education, religion, or popular culture. Governmentality is a notion that develops Foucaults distinctive approach to the analysis of power relations. His work not only relocates power, dispersing it away from sovereign actions of centralised state agencies. It rethinks the type of action through which power is exercised (see Brown 2006b). In fundamental respects, the significance of the notion of governmentality for social theory turns on the interpretation of just what sort of theory of action this notion presupposes. The next two sections explore just where this significance lies. Lemke (2002) argues that Foucaults work on governmentality provides a means of understanding the relationships between knowledge, strategies of power and technologies of the self that can usefully augment narratives of neoliberalism. From this perspective, neoliberalism is understood as a political rationality that tries to render the social domain economic and to link a reduction in (welfare) state services and security systems to the increasing call for personal responsibility and self-care' (Lemke 2001, 203). On this understanding, governmentality is a concept that augments the political-economy approaches outlined in the previous section. For example, Ongs (1999) account of the distinctive forms of governmentality deployed by post-developmental states revolves around the assumption that various regulatory regimes manipulate cultural discourses to selectively make people into certain sorts of economic subjects consistent with the objectives of particular national strategies of acc umulation. Jessop (2007, 40) has also argued that the convergence between Marxism and governmentality studies follows from the mutually supportive emphases of the two approaches: while Marx seeks to explain the why of capital accumulation and state power, Foucaults analyses of disciplinarity and governmentality try to explain the how of economic exploitation and political domination. This formulation acknowledges Foucaults own observation that he was concerned with the how of power, but assumes that this descriptive focus merely augments the explanatory project of Marxist political-economy. What is covered over here is a fundamental philosophical difference between these two approaches: the concept of governmentality implies an analysis that focuses on the description of practices instead of causes and explanations. The Marxist and Foucauldian approaches are not necessarily as easily reconciled as it might appear. There are two main areas of difference between these approaches: their respective understandings of the state and of discourse (Traub-Werner 2007, 1444-1446). Political-economy approaches assume fairly static models of the state and the market, and view their relationship in terms of contradictory movements of de-regulation and re-regulation; they also assume that discourse is a representational concept, and focus upon how discourses are theorized differentially materialised in particular contexts. In contrast, governmentality refers to modalities of power that stretch far beyond the state; and discourse is not a representational system so much as a distinctive concept of action, referring to the combination of technologies, means of representation and fields of possibility. Despite the underlying philosophical differences between governmentality and Marxist political economy, Foucaults notion has become an important reference point in recent debates about neoliberalization (Larner 2003, Barnett 2005). If there is such a thing as a neoliberal project, then it is assumed that it must work by seeking to bring into existence lots of neoliberal subjects (cf. Barnett et al 2008). Work on this topic assumes that extending the range of activities that are commodified, commercialized and marketized necessarily implies that peoples subjectivities need to be re-tooled and re-worked as active consumers, entrepreneurial subjects, or empowered participants (e.g. Bondi 2005, GÃ ¶kariksel and Mitchell 2005, Mitchell 2003, Mitchell 2006, Sparke 2006a, Walkerdine 2005). In this interpretation, the dispersal of power implied by the notion of governmentality is re-centred around a sovereign conception of state action, now able to reach out all the more effectively into a ll sorts of arenas in order to secure the conditions of its own (il)legitimacy. The reduction of governmentality to a mechanism of subjectification marks the point at which Foucaults historical, genealogical approach to issues of subject formation is subordinated to presentist functionalism of theories of neoliberalization. This reduction follows from the ambivalence around subject-formation in the formalized models of governmentality that have developed Foucaults ideas. Roses (1999) analysis of advanced liberal governmentality argues that forms of social government, of which the classical Keynsian welfare state stands as the exemplar, are being supplanted by the de-socialisation of modes of governing. The rationalities of advanced liberal welfare reform take the ethical reconstruction of the welfare recipient as their central problem (ibid. 263). They seek to govern people by regulating the choices made by autonomous actors in the context of their everyday, ordinary commitments to friends, family and community. This rationality is visible in the proliferation o f the registers of empowerment and improvement, in which both subjects participating in welfare or development programmes are geared towards transforming the relationships that subjects have with themselves (Cruickshank 1999, Li 2007). In analyses of advanced liberal governmentality, these shifts in political rationality are the result of the efforts of a diverse set of actors pursuing plural ends. They do not reflect the aims of a singular, coherent neoliberal project pursued through the agency of the state. This emphasis is lost in the functionalist appropriation of governmentality to bolster theories of neoliberalization. This is compounded by the tendency in this work to presume that the description of political rationalities also describes the actual accomplishment of subject-effects. The vocabulary of theorists of neoliberal governmentality theorists is replete with terms such as elicit, promote, foster, attract, guide, encourage and so on: The key feature of the neo-liberal rationality is the congruence it endeavours to achieve between a responsible and moral individual and an economic-rational actor. It aspires to construct prudent subjects whose moral quality is based on the fact that they rationally assess the costs and benefits of a certain sort as opposed to other alternative acts (Lemke 2001, 201). The point to underscore here is the emphasis on a rationality that endeavours and aspires to bring about certain subject-effects. Narratives of the emergence of neoliberal governmentality display little sense of just whether and how governmental programmes seek to get people to comply with projects of rule or identify with subject-positions. This is in large part because the Foucauldian approach to neoliberalism continues to construe governmentality in terms of a politics of subjection (Clarke 2004d, 70-71). Such an assumption leads almost automatically to the conclusion that neoliberalism degrades any residual potential for public action inherent in liberal democracy (e.g. Brown 2003). Equipped with the concept of governmentality, this sort of presentation of neoliberalism is able to avoid any serious consideration of what sort of action can be exercised on subjects through acting on them at a distance. The idea that governmentality is a distinctive mode of political rule which seeks to hail into existence its preferred subjects, which are then only left with the option of resistance, needs to be treated with considerable scepticism. Understood as a mechanism of subjection, governmentality is assumed to work through the operation of norms. However, Foucauldian theory is chronically unable to acknowledge the work of communicative rationalities in making any action-through-norms possible (Hacking 2004). Theories of governmentality consistently fail to adequately specify the looping-effects between knowledge-technologies, practices, and subject-formation which are implied by the idea of governing at a distance (Barnett 2001). This failure leads to the supposition that governmentality works through representational modes of subjectification rather than through the practical ordering of fields of strategic and communicative action. At the very most, the governmentality approach implies a probabilistic relationship between regulatory rationalities of rule and the transformations of subjectivities, mediated by the rules of chance (Agrawal 2005, 161-163). It might even imply a reorientation of analysis towards understanding the assemblage of dispersed, singular acts rather than on psycho-social processes of individual subjection (Barnett et al 2008). The recuperation of governmentality as a theory of subject-formation, modelled on theories of interpellative hailing, overlooks the distinctive modality of action through which the Foucault addresses questions of subjectivity. Whereas liberalism and neoliberalism are understood in political-economy approaches as market ideologies, from the governmentality perspective liberalism (and by extension neoliberalism) should properly refer to a particular problematization of governing, and in particular the problematization of the task of governing free subjects. While a free market ideology might imply a problematization of free subjects, it does not follow that the problematization of free subjects is always and everywhere reducible to the imperatives of free market ideologies. Ong (2006) suggests, for example, a definition of neoliberalism in which long established technologies for administering subjects for self-mastery are only contingently articulated with projects directed at securing profitability. But this clarification still presumes that neoliberalism extends and reproduces itself primarily through a politics of subjection (see also Brown 2006a). It might be better to suppose that the distinctive focus in governmentality studies on modes of problematization should reorient analysis to the forms of what Foucault (1988) once called practices of ethical problematization. This would direct analytical attention to investigating the conditions for individuals to recognize themselves as particular kinds of persons and to reflect upon their conduct to problematize it such that they may work upon and transform themselves in certain ways and towards particular goals (Hodges 2002, 457). Two things follow from this reorientation. Firstly, it presumes that subjectivity is the product of situated rationalities of practice, rather than the representational medium of interpellative recognition (Hacking 2002). Secondly, it implies that the proposition that liberal governme ntality seeks to construct self-regulating subjectivities should not be too easily reduced to the proposition that these subjectivities are normatively self-interested egoists (Du Gay 2005). For example, Isin (2004) argues that the distinctive style of problematizing contemporary subjects of rule is in terms of so many neurotic subjects faced with various risks and hazards. One implication of this style of problematizing subjects is that state agencies continue to be the objects of demands to take responsibility for monitoring such neurotic subjects or securing them from harm. In this section we have seen how the third of the approaches to conceptualising neoliberalism identified by Larner (2000), which appeals to the concept of governmentality, can be more or less easily subsumed into the prevalent political-economy interpretation. The assumption that governmentality is a concept that refers to the inculcation of certain sorts of mentality into subjects is the prevalent interpretation of governmentality in geographys usage of this concept to bolster theories of neoliberalization, not least in the proliferation of work on neoliberal subjects. The marriage of political-economy and governmentality therefore generates a shared space of debate that defines state-of-the-art research into neoliberalization (Barnett 2005). While in the political-economy approach, discourses are treated as expressive of other levels of determination, in the governmentality approach political economic processes recede into the background; whereas political-economy approaches privil ege class relations over other social relations, the governmentality approach reduces the social field to a plane of subjectification. But these differences converge around a shared assumption that reproduction happens: that subjects live out their self-governing subjection as ascribed by governmental rationalities, or subordinate classes live out their regulatory roles as ascribed by hegemonic projects of consent (Clarke 2004c). And so it is that the social is reduced to the repository of a mysterious force of resistance waiting to be activated by the revelatory force of academic demystification. Foucauldian analysis of neoliberal governmentality remains unclear whether either tradition can provide adequate resources for thinking about the practical problems of democracy, rights and social justice. This is not helped by the systematic denigration in both lines of thought of liberalism, a catch-all term used with little discrimination