RISK MANAGEMENT

SCOPE OF DISCUSSION :1 MEASURING / MONITORING RISK2 MITIGATING RISK3 MANAGING REMAINING RISK

MEASURES FOR RISK MONITORING1 EXPECTED VALUE2 STANDARD DEVIATION3 PORTFOLIO RISK4 STOCK MARKET RISK MEASURES5 BUSINESS RISK MODELS

LEVERAGE ANALYSISZ SCORE ANALYSIS

6 OPERATING RISK7 IRR AS A MEASURE OF RISK8 BROAD BASED SENSITIVITY ANALYSIS9 MONTE CARLO BUSINESS SIMULATION

1 EXPECTED VALUE AND STANDARD DEVIATION

EV = SUM OF ( INDIVIDUAL OUTCOMES * RELATED PROBABILITIES )SD = SQUARE ROOT ( SUM OF DIFFERENCES FROM EV^2 * RELATED PROBABILITIES )

CO A IS CONSIDERING INVESTMENT IN A COLOMBIAN FDI PROJECT. THEY HAVE COMPUTEDTHE PROJECTED CASH FLOWS USING US $ AS THE BASE CURRENCY. THE PROJECTED IS CONSIDERED EXPANSIONARY BY THE COMPANY AND WILL CREATENEW SOURCES OF REVENUE. THE PROJECT IS RATHER SENSITIVE TO LOCAL ECONOMICCONDITIONS SO THE FINANCE DIRECTOR HAS ASKED FOR A PROBABILITY BASED ANALYSIS.YOU HAVE GATHERED THE FOLLOWING DATA:Economic Conditions in Colombia Prob. Net Income (US $ 000's) EXPECTED VALUESStrong Growth 30% 500 150Mild Growth 40% 480 192Mild Correction 20% 450 90Downturn 10% 410 41

EXPECTED VALUE (EV) = 473STANDARD DEVIATION :Prob (Outcome - EV)^2 VARIANCE VALUES

30% (500-473)^2 = 729 218.740% (480-473)^2 = 49 19.620% (450-473)^2 = 529 105.810% (410-473)^2 = 3969 396.9

VARIANCE = SD^2= 741STD DEVIATION = 27.2 USD $ K

RISK MANAGEMENT REPORT :1 THIS PROJECT HAS AN EXPECTED NET INCOME OF US $ 473,000 /-2 THE STANDARD DEVIATION IS US $ 27,200 / - OR ABOUT 5.75% OF EXPECTED VALUE.3 THE EXPECTED OUTCOME RANGE IS US $ 445,800 /- TO US $ 500,200 /-

OR EXPECTED NET INCOME = US $ 473,000 /- + /- 5.75%4 THE PROBABILITY OF POSITIVE MARKET CONDITIONS IS 70% WITH EXPECTED

NET INCOME VALUE OF AT LEAST US $ 342,000/-

PORTFOLIO RISK AND STOCK MARKET RISK MEASURES

1 PORTFOLIO = A GROUP OF ASSETS OR INVESTMENTSA BUSINESS MAY ALSO BE REGARDED AS A PORTFOLIO OF ASSETSA COLLECTION OF INVESTMENTS ON THE STOCK MARKET IS ALSO A PORTFOLIO

2 STOCK MARKET RISK IS MEASURED USINF BETA VALUEBETA = N * SUM OF (X*Y) - (SUM OF X * SUM OF Y)

N * SUM OF X^2 - (SUM OF X)^2

WHERE:N = NUMBER OF PAIRS OF OBSERVATIONSX = RETURNS FROM THE STOCK MARKETY = RETURNS FROM AN INDIVIDUAL SHARE OR LISTED BOND

A COMPANY LISTED ON THE NIGERIAN STOCK EXCHANGE WISHES TO DETERMINE ITSBETA VALUE FOR ITS EQUITY SHARES. DATA FOR RETURNS HAS BEEN COMPILED AS FOLLOWS:

YEAR MARKET RETURNS COMPANY RETURNS X * Y X ^22012 15 25 375 225 2011 8 10 80 64 2010 (12) (21) 252 144 2009 3 (5) -15 9 2008 21 30 630 441 2007 17 25 425 289 2006 11 11 121 121

63 75 1,868 1,293

NUMERATOR VALUE = 8,351

DENOMINATOR VALUE = 5,082 BETA = 1.64

IF THE CURRENT MARKET INDEX ON NSE = 33,468 AND IS EXPECTED TOINCREASE TO 37,800 IN ONE YEAR'S TIME, COMPUTE THE MARKET RETURNS.IF RISK FREE RETURNS ARE TAKEN AT 3.5%, COMPUTE THE REQUIRED RETURNFOR THIS SHAREEXPECTED MARKET RETURNS = (INDEX @ Y1 - CURRENT INDEX) %

CURRENT INDEXRm = (37,800 - 33,468) / 33,468 % = 12.9 %REQUIRED RETURN = Rf + ( Beta * Market Premium for Risk)

= 3.5 % + ( 1.64 * (12.9 - 3.5) ) = 18.9 %

3 PORTFOLIO RISKRISK IN A COLLECTION OF INVESTMENTS

PORTFOLIO THEORY A THEORY DESIGNED TO MEASURE THE RISK AND RETURNS FROM A COLLECTIONOF FINANCIAL INVESTMENTS.

PORTFOLIO RETURNSWEIGHTED AVERAGE RETURNS FROM A PORTFOLIO = sum of (proportionate investment * individual returns )

EG : CO. B HAS THE FOLLOWING PORTFOLIO OF SHARES :Shares Number of shares (000's) Price Total Value (RM 000's)Maybank 50 7.82 391.00 Digi 70 5.81 406.70 Air Asia 100 3.31 331.00

TOTAL PORTFOLIO VALUE = 1,128.70

Shares Proportion Returns Portfolio ReturnsMaybank 0.35 15% 5.25Digi 0.36 12% 4.32Air Asia 0.29 25% 7.25

PORTFOLIO RETURNS = 16.82 % = Weighted Average of the Component Returns

RISK MEASUREMENT USING PORTFOLIO THEORYPORTFOLIO THEORY REQUIRES THAT A NEW INVESTMENT BE SELECTED BASED ON THEFOLLOWING CRITERIA :

1 INDIVIDUAL RETURNS EXPECTED FROM THE NEW INVESTMENT

2 INDIVIDUAL RISK IN THE NEW INVESTMENT3 RISK RELATIONSHIP OF THE NEW INVESTMENT WITH THE EXISTING PORTFOLIO

PORTFOLIO RISK IS MEASURED BASED ON A 2 ASSET PORTFOLIOWHERE :

THE EXISTING PORTFOLIO IS ONE ASSETTHE NEW INVESTMENT BEING EVALUATED IS THE SECOND ASSET

RETURNS FROM A 2 ASSET PORTFOLIORp = (R a * Proportion of A) + ( R b * Proportion of B) (A) (B)

portfolio new assetIF PROPOTION INVESTED = W = THE WEIGHT value = 10m 5mTHEN PORTFOLIO RETURNS ARE : returns= 8% 12%Rp = (Wa * Ra) + (Wb * Rb) Proptn = 10/15 = 5 /15

0.67 0.33portfolio returns = (0.67*8%) + (0.33*12%) =

RISK FROM A 2 ASSET PORTFOLIO :

The proportionate The proportionate Risk Relationship betweenrisk in Asset "a" risk in Asset "b" Asset "a" and Asset "b"

COR ab = COEFFICIENT OF CORRELATION BETWEEN ASSET "a" and ASSET "b"

COR HAS VALUES BETWEEN - 1 TO +1COR = 1 IS CALLED PERFECT CORRELATIONCOR = 0 INDICIATES NO RELATIONSHIPTHE CLOSER THE VALUE OF COR TO EITHER +1 OR -1 THE STRONGER IS THE CORRELATION

EG : AN EXISTING PORTFOLIO HAS MARKET VALUE OF $ 300,000 AND PROVIDESRETURNS OF 15%. THE SD HAS BEEN MEASURED AT 7 %.A NEW INVESTMENT OF $100,000 PROMISES EXCITING RETURNS OF 22% WITH A RISK PROFILE OF SD = 12%.THE INVESTMENT ADVISER HAS SUGGESTED THAT THIS NEW INVESTMENTHAS A RISK CORRELATION OF ONLY 0.3 AND THEREFORE REPRESENTS GOODDIVERSIFICATION.

Q : COMPUTE THE RETURNS AND RISK FROM THE NEW PORTFOLIO

Portfolio New InvestmentINDIVIDUAL RETURNS 15 % 22 %INDIVIDUAL RISK 7 % 12 %COEFFCIENT OF CORRELATION = 0.3

PROPORTIONS IF PORTFOLIO = ASSET "a" AND NEW INVESTMENT = ASSET "b"Wa = 300 / 400 = 0.75Wb = 100/400 = 0.25

Ơ p = SQ RT { ( Wa^2 * Ơa^2 ) + ( Wb^2 * Ơb^2 ) + ( 2 * Ơa * Ơb * Wa * Wb * CORab ) }

PORTFOLIO RETUNS = ( 15 % * 0.75 ) + ( 22 % * 0.25 ) = 16.75

PORTFOLIO RISK :SQ RT (( 7^2 * 0.75^2 ) + ( 12^2 * 0.25^2 ) + ( 2 * 7 * 12 * 0.75 * 0.25 * 0.3 )

If correlation was negative:PRPORTIONATE RISK IN PORTFOLIO = 27.5625 27.5625PRPORTIONATE RISK IN NEW INVESTMENT= 9 9RISK RELATIONSHIP VALUE = 9.45 -9.45

SUM = 46.0125 27.1125

PORTFOLIO RISK = SQ RT OF 46 = Ơ p = 6.78 % 5.21

WITH THE NEW INVESTMENT, PORTFOLIO RETURNS WILL INCREASE FROM 15% TO 16.75%AND RISK WILL BE MAINTAINED OR DECLINE SLIGHTLY FROM 7% TO 6.78%THEREFORE, THE NEW INVESTMENT CAN BE INCLUDED INTO THE PORTFOLIO.

OBSERVATIONS OF PORTFOLIO THEORY1 PORTFOLIO RETURNS CAN BE IMPROVED BY ADDING ON INVESTMENT WITH RETURNS THAT

ARE HIGHER THAN THE RETURNS FROM THE EXISTING PORTFOLIO.2 PORTFOLIO RISK CAN BE REDUCED BY ADDING ON INVESTMENT WITH A RISK CORRELATION

THAT IS A LOW POSITIVE OR BETTER STILL, WITH A NEGATIVE CORRELATION TO THE EXISTING PORTFOLIO.

THEREFORE, PORTFOLIO THEORY PROVIDES MATHEMATICAL EVIDENCE THAT PORTFOLIO RISKMAY BE REDUCED USING DIVERSIFICATION.HOWEVER, IN THE REAL WORLD, DIVERSIFICATION IS DIFFICULT TO ACHIEVE BECAUSE : A. WITHIN THE SAME COUNTRY SEVERAL DIFFERENT INDUSTRIES ARE OFTEN

INTER-DEPENDANTB. WITH GLOBALISATION, FINANCIAL SKILLS, STRATEGIES AND ACTION ARE BECOMING

SIMILAR ON A GLOBAL SCALE. INVESTORS MAY FIND IT CHALLENGING TO SEEK INVESTMENTOPPORTUNITIES WHOSE CASH FLOWS ARE TRULY COUNTER - CYCLICAL.

ON THE STOCK MARKET, WHERE MOST SHARES ARE SIMILAR IN RISK PROFILE, DIVERSIFICATIONIN 15 SECURITIES OR MORE HAS BEEN SHOWN TO SIGNIFICANTLY REDUCE DIVERSIFIABLEUNSYSTEMATIC RISK.FOR A WELL DIVERSIFIED PORTFOLIO, THE ONLY RISK THAT NEEDS TO COMPENSATED WITHRETURNS IS MARKET RISK. THIS IS WHERE THE CAPITAL ASSET PRICING MODEL COMES IN.(CAPM)THIS IS WHY CAPM ONLY MEASURES MARKET RISK = BETA VALUE RISK

RELATIONSHIP BETWEEN RISK & RETURNS

JENSEN VALUE = EXPECTED RETURNS % - REQUIRED RETURNS %TREYNOR VALUE = (EXPECTED RETURNS - Rf ) / Beta ValueSHARPE RATIO = (EXPECTED RETURNS - Rf ) / Std Deviation %

EG : THE FOLLOWING REPRESENTS THE PORTFOLIO OF MR RICHShares Proptn Returns SD Beta REQUIRED RETURNSA 0.2 15% 5% 1.5 20 %B 0.15 20% 6% 1.2 17 %C 0.22 25% 7% 1.8 23 %D 0.28 30% 9% 0.9 14 %E 0.15 10% 3% 1.15 16.5 %Rf = 5%Rm = 15%

Q : COMPUTE PORTFOLIO REQUIRED RETURNS AND COMPARE WITH ACTUAL RETURNSSHOWN ABOVE. COMPUTE THE JENSEN VALUE, TREYNOR VALUE AND SHARPE RATIOFOR EACH SHARE.

Shares Proptn Returns Risk Prem SD Beta Sharpe TreynorA 0.2 15% 10 5% 1.5 2.0 6.7 B 0.15 20% 15 6% 1.2 2.5 12.5 C 0.22 25% 20 7% 1.8 2.9 11.1 D 0.28 30% 25 9% 0.9 2.8 27.8 E 0.15 10% 5 3% 1.15 1.7 4.3

extra risk in Risk Pr/SD Risk Pr / Betareturns these given sharesby thesesharesover & abovethe Rf

COMPREHENSIVE CASE STUDY ON CAPM% %

Mth Co ReturMkt Return xy x^21 12 10 120 100 FOR THE LAST 4 MONTHS, STOCK MARKET DATA HAS BEEN2 20 15 300 225 COMPILED AS FOLLOWS :3 5 3 15 9 Month End Values :4 25 12 300 144 Mkt Returns : Mkt Index Company Shares5 -10 -3 30 9 MTH 9 1500 506 -3 0 0 0 (1550-1500)/1500% MTH 10 1550 527 12 5 60 25 (1325-1550)/1550% MTH 11 1325 45

8 28 15 420 225 (1600-1325)/1600% MTH 12 1600 559 15 10 150 100

10 16 3.3 52.8 10.89 DURING MONTH 10, THE COMPANY PAID A DIVIDEND11 -13.5 -14.5 195.75 210.25 OF $6 PER SHARE.12 22.2 20.7 459.54 428.49

128.7 76.5 2103.09 1486.63Q : 1 COMPLETE THE SCHEDULE OF RETURNS ABOVE

2 USE THE INFORMATION TO COMPUTE BETA VALUE = 1.283 IF MARKET RETURNS IN THE COMING YEAR ARE EXPECTED TO BE 12%

AND RISK FREE RETURNS ARE 4%, COMPUTE THE REQUIRED RETURNS ONTHIS COMPANY'S SHARES IN THE COMING YEAR. = 4 + (1.28 * [12 - 4] ) =

BETA ADJUSTMENTSTO ADJUST FOR CHANGES IN EXPOSURE TO MARKET RISKCHANGES IN THIS RISK CAN BE CAUSED BY CHANGES IN :

1 LEVEL OF GEARING2 NATURE OF BUSINESS

APPLICATIONS :1 ESTIMATE BETA FROM SIMILAR LISTED COMPANIES IF OUR COMPANY IS UNLISTED2 ESTIMATE BETA FROM SIMILAR LISTED COMPANIES IF OUR COMPANY IS NEWLY LISTED3 LISTED COMPANY MAKES A CHANGE IN ITS GEARING OR BUSINESS OPERATIONS

2 TYPES OF RISK TO ADJUST FOR :1 FINANCIAL RISK

CAUSED BY GEARINGADJUSTED BY RE-GEARING THE BETA TO THE NEW GEARING LEVEL

2 BUSINESS RISK = OPERATING RISKCAUSED BY NATURE OF BUSINESSADJUSTED BY COMPUTING A NEW WEIGHTED AVERAGE BETA CONTAININGCOMPONENTS OF EXISTING BUSINESS AND NEW BUSINESS

GEARING UP THE EQUITY BETABETA GEARED = BETA UNGEARED * ( 1 + (D /E ) )

WHERE D = MARKET VALUE OF DEBT NET OF TAXE = MARKET VALUE OF EQUITY

A PLC B PLC C PLCMKT VALUE OF EQUITY 500 300 700EXISTING MKT VALUE OF DEBT 200 0 300ISSUE OF NEW DEBT 100 100 100TAX RATE = 25 %

EXISTING BETA EQUITY = 1.5 0.8 1.75

Q : COMPUTE THE GEARED BETA EQUITY FOR EACH COMPANY ABOVE.

A PLC :GEARED BETA EQUITY = 1.5 * ( 1+ (275/500) ) = 2.325

B PLC :GEARED BETA EQUITY = 0.8 * ( 1 + ( 75 /300 ) ) = 1

C PLC :GEARED BETA EQUITY = 1.75 * ( 1 + ( 375 /700 )) = 2.69

DE-GEARING UP THE EQUITY BETA

BETA UNGEARED = BETA GEARED / ( 1 + (D /E ) )WHERE D = MARKET VALUE OF DEBT NET OF TAXE = MARKET VALUE OF EQUITY

D PLC E PLC F PLCMKT VALUE OF EQUITY 500 300 700EXISTING PROPORTION OF DEBT 40% 40% 40%NEW PROPORTION OF DEBT 0% 20% 55%TAX ADJUSTMENTS HAVE ALREADY BEEN MADEEXISTING BETA EQUITY = 1.5 0.8 1.75

D PLC :DEGEARED BETA = 1.5 / ( 1 + (40/60) ) = 0.9 @ 40% Gearing

E PLC :DEGEARED BETA = 0.8 / ( 1 + (40 /60) ) = 0.48 @ 0% Gearing

RE-GEAR THE BETA TO THE NEW PROPORTION OF DEBT (20%) :Gearing up to 20 % = 0.48 * ( 1+ (20 /80) ) = 0.66 @ 20% Gearing

F PLC :DEGEARED BETA = 1.75 / ( 1 + (40 /60) ) = 1.05 @ 0% Gearing

RE-GEAR THE BETA TO THE NEW PROPORTION OF DEBT (20%) :Gearing up to 55 % = 1.05 * ( 1+ (55 /45) ) = 2.33 @ 55% Gearing

ADJUSTING THE BETA FOR CHANGES IN OPERATING RISK

NEW ASSET BETA =(EXISTING BETA * Proportionate Value of Existing Business ) +

(BETA ON NEW BUSINESS * Proportionate Value of New Business)

IT IS THE WEIGHTED AVERAGE OF EXISTING BETA WITH THE NEW BUSINESS BETA.

EG : A COMPANY IS DIVERSIFYING INTO BUSINESS REPRESENTING 25% OF ITS EXISTING MARKETVALUE. THE NEW BETA IS EXPECTED TO REDUCE RISK AS IT IS ONLY 0.8 COMPARED TO THECOMPANY'S EXISTING BETA OF 1.7.WHAT IS THE NEW ASSET BASED BETA ?

NEW ASSET BETA = ( 0.75 * 1.7 ) + ( 0.25 * 0.8 ) = 1.48

PropotionateInvestment 0.35 0.36 0.29

new asset

portfolio returns = (0.67*8%) + (0.33*12%) = 9.32%

Risk Relationship betweenAsset "a" and Asset "b"

THE CLOSER THE VALUE OF COR TO EITHER +1 OR -1 THE STRONGER IS THE CORRELATION

%

If correlation was negative:

%

PORTFOLIO RETURNS CAN BE IMPROVED BY ADDING ON INVESTMENT WITH RETURNS THAT

THEREFORE, PORTFOLIO THEORY PROVIDES MATHEMATICAL EVIDENCE THAT PORTFOLIO RISK

SIMILAR ON A GLOBAL SCALE. INVESTORS MAY FIND IT CHALLENGING TO SEEK INVESTMENT

ON THE STOCK MARKET, WHERE MOST SHARES ARE SIMILAR IN RISK PROFILE, DIVERSIFICATION

JENSEN SCORE Action-5% SELL

3 % BUY2 % BUY

16 % BUY-6.5 % SELL

Risk Pr / Beta

FOR THE LAST 4 MONTHS, STOCK MARKET DATA HAS BEEN

Company Shares Company Returns$$ (52-50+6) / 50$ (45-52) / 52

$ (55-45) / 45

DURING MONTH 10, THE COMPANY PAID A DIVIDEND

= 4 + (1.28 * [12 - 4] ) = 14.24%

ESTIMATE BETA FROM SIMILAR LISTED COMPANIES IF OUR COMPANY IS NEWLY LISTED

@ 40% Gearing

@ 0% Gearing

@ 20% Gearing

@ 0% Gearing

@ 55% Gearing

IT IS THE WEIGHTED AVERAGE OF EXISTING BETA WITH THE NEW BUSINESS BETA.

A COMPANY IS DIVERSIFYING INTO BUSINESS REPRESENTING 25% OF ITS EXISTING MARKETVALUE. THE NEW BETA IS EXPECTED TO REDUCE RISK AS IT IS ONLY 0.8 COMPARED TO THE

RISK OF BUSINESS FAILURE

1 REVENUE 10002 OPERATING PROFIT OR EBIT 3003 NET PROFIT AFTER TAX 1004 NET FINANCE CHARGES 255 RETAINED EARNINGS 806 TOTAL ASSETS 8007 CURRENT ASSETS 3508 CURRENT LIABILITIES 2009 TOTAL LIABILITIES 300

10 TOTAL BORROWINGS 15011 TOTAL EQUITY @ BOOK VALUE 50012 TOTAL MARKET CAPITALIZATION 250013 PE 12 times

Balance Sheet Check

BASIC RISK INDICATORS1 OPERATING MARGIN OP / R % 300/1000 302 NET MARGIN NPAT /R % 100 /1000 103 ASSET UTILISATION (RM) R / TA RM 1000/800 1.254 ROI NPAT / TA % 100/800 12.55 EQUITY MULTIPLIER TA / EQ times 800/500 1.66 ROE ROI * EQ MULTIPLIER 12.5 * 1.6 20

7 GEARING } DEBT / EQUITY TB / EQ % 150/500 308 ASSET FINANCING } DEBT / ASSETS TB / TA % 150/800 18.759 INTEREST COVER EBIT / NET INTEREST COS 300/25 12

10 PRICE / BOOK ASSETS PRICE PER SHARE / TA PER SHARE11 PRICE / BOOK EQUITY PRICE PER SHARE / EQUITY PER SHARE12 PRICE / LIABILITIES PRICE PER SHARE / LIABILITIES PER SHARE

Business Factors Environmental FactorsCash flow management Changes in technologyThreats from competitors Political instabilityPoor distribution network Regulation changesPoor execution of plans/implementatio Natural disasterPoor transparency of the operations Economic Crisis

Management Factors Cost FactorsExperience of Management Inflation of key resources

Scarce resourcesCultural difference Poor budgeting / planningHigh staff turnover Inefficient supply chain / wastageFraud / Poor Internal Control Poor Performance ManagementInternal conflicts

Strategy FactorsObsolete ideas - no blue ocean thinkingInflexibility of strategyStrategy not well definedWrong KPI focusOver/under optimistic

PROFITABILITY RISK

1 ABILITY TO GENERATE SALES IS THE CORE RISK.WITHOUT REVENUE, THERE CAN BE N ASSET UTILISATION RATIO =THIS IS MEASURED USING ASSET UT REVENUEHIGHER ASSET UTILISATION MEANS TOTAL ASSETSBECAUSE THE COMPANY HAS A STRONGENERATE INCOME FROM THE USE OF

LIQUIDITY RISK2 LIQUIDITY RISK ARISES FROM :

- MISMATCH OF FINANCING EG : WHERE THE COMPANY USES EXCESSIVE AMOUNTSOF SHORT TERM FINANCING SUCH THAT ALL CURRENTASSETS AS WELL AS SOME FIXED ASSETS ARE FINANCEDUSING CURRENT LIABILITIES.THIS IS INDICATED WHEN WORKING CAPITAL IS NEGATIVECURRENT RATIO = CA / CL MUST BE > $1

- INSUFFICIENT CASH RESERVES THE BALANCE OF CASH AND CASH EQUIVALENTS SHOULDNORMALLY BE > 30% OF CURRENT LIABILITIES

CASH RATIO = CCE / CL > 30 %

IN ORDER TO CORRECT A MISMATCH OF FINANCING WHERE SHORT TERM FUNDING ISTOO HIGH, THE COMPANY CAN :

Incompetency of Management, improper communication

Over dependance on key management personnel

- BORROW LONG TERM TO REDUCE OR ZERORISE SOME OF THE CURRENT LIABILITIES ESPECIALLY THOSE THAT ARE INTEREST BEARING EG : TAKE A TERM LOAN TO REPAY DOWN THE OVERDRAFT OR RE-FINANCE SOME FIXED ASSETS USING A LEASE OR MORTGAGE TO RELEASE SOME CASH

BORROWING RISK

IS MEASURED USING GEARING RATIO AND INTEREST COVER

GEARING = DEBT / EQUITY = TOTAL BORROWINGS / EQUITY

INTEREST COVER = OPERATING PROFIT / TOTAL FINANCE CHARGES

COMPANY F GGEARING 60% 160%INTEREST COVER 6 X 28X

GENERALLY HIGHER GEARING IS AN INDICATOR OF HIGHER FINANCIAL RISK.THIS FINANCIAL RISK IS CAUSED BY THE FIXED COMMITMENT TO REPAY LOANS AND INTEREST AND CAN BE MEASURED USING THE INTEREST COVER.THEREFORE, COMPANY G HAS LOWER FINANCIAL RISK EVEN IF GEARINGIS HIGHER BECAUSE ITS EARNINGS AND REPAYMENT CAPACITY ARESTRONGER THAN CO. F - BASED ON A HIGHER INTEREST COVER OF 28 TIMES.

Z SCORE FOR PUBLIC LISTED1.2 WORKING CAPITAL WC / TA1.4 RETENTIONS & ORGANIC GROWTH RE /TA3.3 OPERATING PROFITABILITY OP / TA0.6 MARKET CAP / LIABILITIES MCAP/ TL

0.999 ASSET UTILIZATION R / TAZ SCORE

TOP GLOVE 2012 2011 2012TOTAL ASSETS 1,598 1,423 CURRENT ASSETS 811 715 CURRENT LIABILITIES 274 229 TOTAL LIABILITIES 318 276 MKT VALUE OF SHARES (M CAP) 3,609 3,609 as at 12th April 2013

No of shares 619 619 REVENUE 2,314 2,054 OPERATING PROFITS 240 145

NPAT 207 115 DIVIDENDS 80 87 RETAINED EARNINGS 127 28

2012 20111.2 WORKING CAPITAL 0.40 0.41 1.4 RETENTIONS & ORGANIC GROWTH 0.11 0.033.3 OPERATING PROFITABILITY 0.50 0.340.6 MARKET CAP / LIABILITIES 6.81 7.85

0.999 ASSET UTILIZATION 1.45 1.44Z SCORE 9.27 10.06

Z SCORE PROCESS1 COMPUTE EACH RATIO AND MULTIPLY BY THE WEIGHTS2 ADD UP THE VALUE OF THE 5 RATIOS TO GET THE Z SCORE3 INTERPRETE THE Z SCORE :

Z SCORE LESS THAN 1.88 FINANCIAL DISTRESS LIKELY IN THE NEXT 2 YEARSZ SCORE BETWEEN 1.88 & 3.33 NON CONCLUSIVE SCOREZ SCORE GREATER THAN 3.33 FINANCIAL DISTRESS NOT LIKELY

COMPANY HAS STRONG SURVIVAL INDICATORS

OTHER RISK INDICATORS

1 IRR MAY GIVE AN INDICATION OF RISK BECAUSE IT IS THE SENSITIVITY OFPROJECTED CASH FLOWS TO CHANGES IN DISCOUNT RATE.IT REPRESENTS THE HIGHEST % RETURNS THAT CAN BE ACHIEVED FROMA SET OF PROJECTED CASH FLOWS

2 MONTE CARLO BUSINESS SIMULATIONTHIS INVOLVES RE-CREATING THE BUSINESS ENVIRONMENT USING COMPUTERSOFTWARE WHERE MANY INTER RELATED FACTORS CAN BE ALLOWED TO CHANGEIN REPSONSE TO EACH OTHER EG: SALES VOLUME, LABOUR COSTS, INTEREST RATES ETCTHE SOFTWARE WILL COMPUTE THE PROJECTED PROFIT UNDER EACH SCENARIO.

IOI CORP 2012 20111 REVENUE 15,640 16,154 2 OPERATING PROFIT OR EBIT 2,367 2,816 3 NET PROFIT AFTER TAX 1,829 2,291 4 NET FINANCE CHARGES 141 123 5 RETAINED EARNINGS6 TOTAL ASSETS 23,065 19,655 7 CURRENT ASSETS 9,186 7,703 8 CURRENT LIABILITIES 2,202 2,288 9 TOTAL LIABILITIES 10,149 7,394

10 TOTAL BORROWINGS 8,122 5,397 11 TOTAL EQUITY @ BOOK VALUE 12,916 12,261 12 TOTAL MARKET CAPITALIZATION 31,642 13 PE 17.7 TIMES

IOI CORPBASIC RISK INDICATORS 2012 2011

% 1 OPERATING MARGIN 15.1 17.4 %% 2 NET MARGIN 11.7 14.2 %RM 3 ASSET UTILISATION (RM) 0.68 0.82 RM% 4 ROI 7.9 11.7 %times 5 EQUITY MULTIPLIER 1.79 1.60 times% 6 ROE 14.2 18.7 %

% 7 GEARING } DEBT / EQUITY 62.9 44.0 %% 8 ASSET FINANCING } DEBT / ASSETS 35.2 27.5 %times 9 INTEREST COVER 16.8 22.9 times

10 PRICE / BOOK ASSETS 1.37 BASED ON DATA 11 PRICE / BOOK EQUITY 2.45 FOR WEEK ENDED 12 PRICE / LIABILITIES 3.12 FEB 15th 2013

Inflation of key resources

Poor budgeting / planningInefficient supply chain / wastagePoor Performance Management

Obsolete ideas - no blue ocean thinking

Strategy not well defined

ASSET UTILISATION RATIO =

TOTAL ASSETS

EG : WHERE THE COMPANY USES EXCESSIVE AMOUNTSOF SHORT TERM FINANCING SUCH THAT ALL CURRENTASSETS AS WELL AS SOME FIXED ASSETS ARE FINANCED

THIS IS INDICATED WHEN WORKING CAPITAL IS NEGATIVE

THE BALANCE OF CASH AND CASH EQUIVALENTS SHOULDNORMALLY BE > 30% OF CURRENT LIABILITIES

IN ORDER TO CORRECT A MISMATCH OF FINANCING WHERE SHORT TERM FUNDING IS

- BORROW LONG TERM TO REDUCE OR ZERORISE SOME OF THE CURRENT LIABILITIES

2011

as at 12th April 2013

FINANCIAL DISTRESS LIKELY IN THE NEXT 2 YEARS

COMPANY HAS STRONG SURVIVAL INDICATORS

IN REPSONSE TO EACH OTHER EG: SALES VOLUME, LABOUR COSTS, INTEREST RATES ETC