WEBVTT 1 00:00:07.700 --> 00:00:11.100 Hello and welcome to this vidcast which curiously 2 00:00:10.100 --> 00:00:14.500 combines Asbestos and a 3 00:00:13.500 --> 00:00:16.700 Nobel prize in economics, Bob Merton. 4 00:00:18.400 --> 00:00:21.900 A few days ago and of January 2023 a 5 00:00:21.900 --> 00:00:23.800 court of appeals in Philadelphia. 6 00:00:24.800 --> 00:00:27.200 Will dismiss the claim which had been 7 00:00:27.200 --> 00:00:29.100 issued by Johnson and Johnson? 8 00:00:30.100 --> 00:00:34.000 Genji had created in 2021 a company 9 00:00:33.800 --> 00:00:36.400 ad hoc LTL Management 10 00:00:36.400 --> 00:00:40.000 in order to put all the complaints 11 00:00:39.300 --> 00:00:42.600 related to the sale of talc in 12 00:00:42.600 --> 00:00:43.400 this company. 13 00:00:44.200 --> 00:00:47.700 Intelligible. Asbestos. Asbestos is 14 00:00:47.700 --> 00:00:51.000 causing Cancers and unfortunately death. 15 00:00:52.500 --> 00:00:55.600 Soon after the creation of LTL Management in 16 00:00:55.600 --> 00:00:59.600 2021 a few months later jng, put 17 00:00:59.600 --> 00:01:03.400 the company under the protection of chapter 11 bankruptcy. 18 00:01:02.400 --> 00:01:04.900 Look the same year. 19 00:01:06.200 --> 00:01:09.100 Of course, the company is going to pay quite a lot 20 00:01:09.100 --> 00:01:12.800 of money about these claims the company paid 21 00:01:12.800 --> 00:01:15.800 4.5 billion in the past and probably for 22 00:01:15.800 --> 00:01:18.500 the decades to come there will be additional amounts 23 00:01:18.500 --> 00:01:20.700 which might be quite substantial. 24 00:01:22.100 --> 00:01:26.000 According to the law of taxes. It's possible 25 00:01:25.200 --> 00:01:28.500 and allowed to create what is 26 00:01:28.500 --> 00:01:30.700 named divisive mergers. 27 00:01:31.900 --> 00:01:34.900 It consists in positioning the liabilities 28 00:01:34.900 --> 00:01:37.700 created by an issue somewhere 29 00:01:37.700 --> 00:01:40.700 in an ad hoc structure in 30 00:01:40.700 --> 00:01:43.900 a special purpose vehicle. So you 31 00:01:43.900 --> 00:01:46.300 put the liabilities in a company and then the 32 00:01:46.300 --> 00:01:48.800 company is going to go bankrupt. 33 00:01:49.700 --> 00:01:52.600 As a consequence, you can protect the parent company from 34 00:01:52.600 --> 00:01:55.500 Criminal issues. You're no 35 00:01:55.500 --> 00:01:58.500 more in front of the people's jury and there 36 00:01:58.500 --> 00:02:01.800 will be also a kind of financial protection because you limit the 37 00:02:01.800 --> 00:02:04.200 amount of money which is going to be asked. 38 00:02:04.800 --> 00:02:07.600 This system has been widely used 39 00:02:07.600 --> 00:02:10.900 by industrial firms. As far as asbestos claims. 40 00:02:10.900 --> 00:02:13.100 We are concerned This legal system 41 00:02:13.100 --> 00:02:17.200 was widely criticized by the Professionals 42 00:02:16.200 --> 00:02:18.200 of the law. 43 00:02:18.800 --> 00:02:21.900 A judge in Charlotte North Carolina, 44 00:02:21.900 --> 00:02:24.400 simply said this is a vessel 45 00:02:24.400 --> 00:02:27.200 you define the vessel you build the vessel and 46 00:02:27.200 --> 00:02:30.900 then you sink The Vessel you put the asbestos liability 47 00:02:30.900 --> 00:02:33.100 into bankruptcy and that's it. It's a kind 48 00:02:33.100 --> 00:02:36.200 of hijacking of the original Mission of the 49 00:02:36.200 --> 00:02:37.200 chapter 11. 50 00:02:38.300 --> 00:02:42.200 When you put the company under the protection of chapter 51 00:02:41.200 --> 00:02:44.900 11, what is the objective? It's 52 00:02:44.900 --> 00:02:46.800 continuation of business activity. 53 00:02:47.600 --> 00:02:50.400 You don't create a company to kill its 54 00:02:50.400 --> 00:02:54.100 three months later. So it's a kind of hijacking again of 55 00:02:53.100 --> 00:02:56.600 the original Mission of the bankruptcy. Look. 56 00:02:57.300 --> 00:03:00.700 Now I'm not going to comment all the legal aspects. 57 00:03:00.700 --> 00:03:03.300 It's a bit off topic. I'm not an expert. I 58 00:03:03.300 --> 00:03:06.100 am not legitimate to do that. But there's a 59 00:03:06.100 --> 00:03:09.600 very interesting Financial perspective, which is to 60 00:03:09.600 --> 00:03:12.600 look at the Merton model in order 61 00:03:12.600 --> 00:03:15.400 to understand what's behind that on a final short 62 00:03:15.400 --> 00:03:15.900 point of view. 63 00:03:16.900 --> 00:03:20.200 But Merton is a prestigious Financial Economist, 64 00:03:19.200 --> 00:03:22.100 by the way, it's also the son of 65 00:03:22.100 --> 00:03:24.200 a prestigious sociologist. 66 00:03:25.100 --> 00:03:29.000 He very much looked at portfolios portfolio Theory 67 00:03:28.700 --> 00:03:31.500 Financial assets derivatives and 68 00:03:31.500 --> 00:03:34.700 among their evalues options the garden novel 69 00:03:34.700 --> 00:03:37.500 price in economics in 1997 together with 70 00:03:37.500 --> 00:03:40.800 Myron scholes on option pricing series 71 00:03:40.800 --> 00:03:43.400 Fisher black the co-author of 72 00:03:43.400 --> 00:03:46.300 Myron scholz should have got another price as 73 00:03:46.300 --> 00:03:49.200 well, but unfortunately had passed away in between. 74 00:03:51.500 --> 00:03:55.100 Bob Merton contributed as an advisor to a 75 00:03:54.100 --> 00:03:57.600 hedge fund AMC created by Harry 76 00:03:57.600 --> 00:04:01.000 markovitz at the end of the 60s markovitz, by 77 00:04:00.700 --> 00:04:03.400 the way also got another price in economics 78 00:04:03.400 --> 00:04:07.100 for the portfolio Theory and the very well known cap'em 79 00:04:06.100 --> 00:04:07.500 modern. 80 00:04:08.100 --> 00:04:11.600 But then later on together with Myron Schultz, but Merton 81 00:04:11.600 --> 00:04:15.000 created co-creator fond, which 82 00:04:14.400 --> 00:04:17.400 is named ltcm. It was 83 00:04:17.400 --> 00:04:20.400 created in 1994 and fortunately a 84 00:04:20.400 --> 00:04:23.400 couple of years after the golden over price. There was a 85 00:04:23.400 --> 00:04:26.200 really problem and bail out was 86 00:04:26.200 --> 00:04:29.500 needed 3.6 billion dollars from the banking 87 00:04:29.500 --> 00:04:32.600 Community to avoid systemic risk. So 88 00:04:32.600 --> 00:04:34.900 definitely it was a disaster. 89 00:04:35.900 --> 00:04:38.700 Now, let's go back to the Merton model 90 00:04:38.700 --> 00:04:41.300 as far as the balance. It is concerned. Let's first have a 91 00:04:41.300 --> 00:04:43.000 look at the economic basis of 92 00:04:43.800 --> 00:04:46.200 if you consider a financial balance it 93 00:04:46.200 --> 00:04:50.200 on the left hand side. What do you have you have an industrial project? You are 94 00:04:49.200 --> 00:04:52.100 constructing an industrial project, which is 95 00:04:52.100 --> 00:04:55.400 named Capital employed. You remember his name fixed assets 96 00:04:55.400 --> 00:04:58.000 and working capital requirement now in order 97 00:04:58.100 --> 00:05:01.300 to find that you need to engage investors on board. 98 00:05:02.100 --> 00:05:05.300 Two kinds of investors find your creators first 99 00:05:05.300 --> 00:05:08.100 bankers bondholders and so on so forth 100 00:05:08.100 --> 00:05:11.800 and also the shareholders which are basically 101 00:05:11.800 --> 00:05:14.300 the owners of the company each and every 102 00:05:14.300 --> 00:05:16.400 share is a title of ownership. 103 00:05:17.300 --> 00:05:20.200 Now let's do a little bit of accounting to illustrate that 104 00:05:20.200 --> 00:05:24.500 imagine that the cost of the project is 300 Capital 105 00:05:23.500 --> 00:05:26.900 employed is going to be 300 and 106 00:05:26.900 --> 00:05:29.000 then you are going to mobilize the investors. 107 00:05:29.800 --> 00:05:32.200 Creditors Financial creditors agree to 108 00:05:32.200 --> 00:05:35.200 invest 100 out of 300 then if you 109 00:05:35.200 --> 00:05:38.200 are the shareholders, you must contribute to the rest of 110 00:05:38.200 --> 00:05:41.100 it 300 - 100 it's 200 the 111 00:05:41.100 --> 00:05:44.900 initial balance. It is obviously balancing on the 112 00:05:44.900 --> 00:05:47.100 left hand side. This is a cost of the business 113 00:05:47.100 --> 00:05:50.500 project which is 300 on the right hand side the 114 00:05:50.500 --> 00:05:53.800 financial resources. Thanks to which you can Finance your 115 00:05:53.800 --> 00:05:56.600 project Equity is 200 and again Financial 116 00:05:56.600 --> 00:05:59.600 that coming from creditors is one handed. 117 00:06:00.500 --> 00:06:03.300 Now what is very interesting is how you are 118 00:06:03.300 --> 00:06:06.900 going to share the profit of the project once 119 00:06:06.900 --> 00:06:07.500 it's completed? 120 00:06:08.700 --> 00:06:11.900 Financial creditors they do have a contractual 121 00:06:11.900 --> 00:06:14.300 relationship with the company a debt 122 00:06:14.300 --> 00:06:17.900 is a contract which is signed by both parties then 123 00:06:17.900 --> 00:06:20.100 if there's a contract there is a 124 00:06:20.100 --> 00:06:21.300 contractual remuneration. 125 00:06:22.300 --> 00:06:25.300 It's supposed that it is 10% and forget about the calculation of 126 00:06:25.300 --> 00:06:25.500 it. 127 00:06:26.200 --> 00:06:29.400 Just shareholders. You remember that their relationship with the company 128 00:06:29.400 --> 00:06:32.100 is ownership. We are the owners of the 129 00:06:32.100 --> 00:06:35.400 company. So we are remunerated with what is 130 00:06:35.400 --> 00:06:39.100 left after the stakeholders have 131 00:06:38.100 --> 00:06:41.700 been remunerated operating and financial 132 00:06:41.700 --> 00:06:44.300 stakeholders. So the result is 133 00:06:44.300 --> 00:06:47.700 what remains after the remuneration of the stakeholders. It's 134 00:06:47.700 --> 00:06:49.800 a residual remuneration. 135 00:06:50.700 --> 00:06:53.200 Let's have a look at what happens at the end of the project 136 00:06:53.200 --> 00:06:56.800 if everything goes right the Enterprise Value is 137 00:06:56.800 --> 00:06:59.600 more than the amount of money which was invested in 138 00:06:59.600 --> 00:07:03.000 the business. So maybe you have invested 300 and 139 00:07:02.300 --> 00:07:05.700 one year later. It's worth 400. You 140 00:07:05.700 --> 00:07:08.900 have created value. How do you share this 141 00:07:08.900 --> 00:07:11.800 value creation First Financial creatures 142 00:07:11.800 --> 00:07:14.300 you receive what is returning a contract though? They 143 00:07:14.300 --> 00:07:17.100 get a one-handed back and they get 10% of 144 00:07:17.100 --> 00:07:20.400 the 100 as a remuneration of the risk. They have taken 145 00:07:20.400 --> 00:07:23.100 so you provide 110 to 146 00:07:23.100 --> 00:07:26.200 the creators out of 400 how much is left. So 147 00:07:26.200 --> 00:07:30.400 what the value of the asset for the shareholders after 148 00:07:29.400 --> 00:07:32.500 creatures are bad is 200 149 00:07:32.500 --> 00:07:35.900 and 290 the final balance sheet 150 00:07:35.900 --> 00:07:38.400 at the end of the project one year later is 151 00:07:38.400 --> 00:07:41.300 not surprise value 400. What is due to 152 00:07:41.300 --> 00:07:44.900 the financial stakeholders is 110 the cost 153 00:07:44.900 --> 00:07:47.500 of that. The remuneration of the financial crater 154 00:07:47.500 --> 00:07:50.600 is 10% and as fast sharehold. 155 00:07:50.700 --> 00:07:53.700 Our concerns they have invested 200. It's worth 156 00:07:53.700 --> 00:07:56.200 290. So they return 157 00:07:56.200 --> 00:07:59.400 on Equity is 45% for the 158 00:07:59.400 --> 00:08:04.600 year, which is absolutely great. Unfortunately running 159 00:08:03.600 --> 00:08:06.400 the project might run to 160 00:08:06.400 --> 00:08:08.400 a kind of unpleasant surprise. 161 00:08:09.200 --> 00:08:12.400 You have invested 300. It's not worth 400. But 162 00:08:12.400 --> 00:08:15.000 150. What do you 163 00:08:15.100 --> 00:08:18.500 do with the 150 first you're remunerate your 164 00:08:18.500 --> 00:08:23.100 financial creditors. They were expecting 110 165 00:08:21.100 --> 00:08:24.700 by contract They 166 00:08:24.700 --> 00:08:27.200 will receive 1/10. How much 167 00:08:27.200 --> 00:08:30.400 is Left To the shareholders the difference between 1 hour 168 00:08:30.400 --> 00:08:34.300 and 50 and 100 10, I mean 40 so 169 00:08:33.300 --> 00:08:36.500 you understand that the financial balances is 170 00:08:36.500 --> 00:08:39.300 also balancing and to price value is 171 00:08:39.300 --> 00:08:42.700 now 150. What is due to the Farish operators 172 00:08:42.700 --> 00:08:45.500 is 110 and their return on investment 173 00:08:45.500 --> 00:08:49.200 is 10% which is the contract for 174 00:08:48.200 --> 00:08:51.400 the shareholders is completely different story because 175 00:08:51.400 --> 00:08:54.800 they have invested 200. How much is left 40 176 00:08:54.800 --> 00:08:57.800 they have lost four fifths of 177 00:08:57.800 --> 00:09:00.500 the value the return on shareholders equities 178 00:09:00.500 --> 00:09:03.500 minus 40% That was 179 00:09:03.500 --> 00:09:06.600 an unpleasant surprise, but the surprise might be very 180 00:09:06.600 --> 00:09:07.000 bad. 181 00:09:07.700 --> 00:09:10.800 It scares you up to price value is less than 182 00:09:10.800 --> 00:09:12.600 what the creators are expecting. 183 00:09:13.400 --> 00:09:16.600 Let's assume that the Enterprise Value is 80 and 184 00:09:16.600 --> 00:09:19.300 what is due to the creators is 110 then 185 00:09:19.300 --> 00:09:20.300 what's going to happen? 186 00:09:20.900 --> 00:09:24.800 It all depends on the responsibility of 187 00:09:24.800 --> 00:09:27.900 the shareholders. It's their responsibility 188 00:09:27.900 --> 00:09:30.600 is limited to their contribution the amount 189 00:09:30.600 --> 00:09:33.400 of money as they introduced in the balance sheet the 200 190 00:09:33.400 --> 00:09:37.100 then the creditors are going to receive 80 against 191 00:09:36.100 --> 00:09:40.000 the extinguishment of that the 192 00:09:39.200 --> 00:09:42.800 debt does not exist anymore and the 193 00:09:42.800 --> 00:09:45.800 financial creatures. They receive 80 if the 194 00:09:45.800 --> 00:09:48.800 responsibility is indefinite, then the 195 00:09:48.800 --> 00:09:51.500 creditors are going to say we take 80 out of 196 00:09:51.500 --> 00:09:54.400 the Enterprise Value, but we expect an 197 00:09:54.400 --> 00:09:57.700 additional 30 coming from the shareholders. They 198 00:09:57.700 --> 00:10:00.000 are in charge. They are responsible. They are 199 00:10:00.700 --> 00:10:03.000 accountable and then the financial creatures are 200 00:10:03.200 --> 00:10:04.700 going to receive one hundred and ten. 201 00:10:05.500 --> 00:10:08.500 So you understand that there's a very big 202 00:10:08.500 --> 00:10:12.100 importance of the legal nature of the firm and 203 00:10:11.100 --> 00:10:14.800 there's a huge impact as well on the 204 00:10:14.800 --> 00:10:17.800 risk allocation. Everybody who has 205 00:10:17.800 --> 00:10:20.500 been involved in Project Finance knows 206 00:10:20.500 --> 00:10:24.100 that risk allocation is often to most importance in 207 00:10:23.100 --> 00:10:27.300 one case for the shareholders. They responsibility 208 00:10:26.300 --> 00:10:29.500 is limited to what they bring, you know 209 00:10:29.500 --> 00:10:32.400 the case they are indefinitely responsible that 210 00:10:32.400 --> 00:10:34.300 completely changes the picture. 211 00:10:35.400 --> 00:10:39.500 Now, let's go back to the option pricing 212 00:10:38.500 --> 00:10:42.500 Theory which is a Nobel 213 00:10:41.500 --> 00:10:44.300 Prize for Bob Merton and 214 00:10:44.300 --> 00:10:47.900 Myron Schultz. What is an option? It's a right. It's not 215 00:10:47.900 --> 00:10:50.100 an obligation. It's a right which 216 00:10:50.100 --> 00:10:53.800 you can exercise or not to buy or sell call 217 00:10:53.800 --> 00:10:56.300 option put option an asset 218 00:10:56.300 --> 00:10:59.500 at the price which is agreed in advance and at 219 00:10:59.500 --> 00:11:02.600 a date or before the date, which 220 00:11:02.600 --> 00:11:04.200 is also a great in advance. 221 00:11:05.300 --> 00:11:08.400 Now let's have a look at the picture the shareholders their own 222 00:11:08.400 --> 00:11:11.500 the assets. They have the right to sell 223 00:11:11.500 --> 00:11:15.300 the assets to the financial creatures against the extinguishment 224 00:11:14.300 --> 00:11:17.300 of the debt. They have 225 00:11:17.300 --> 00:11:20.100 the right and not the obligation. And of course they are 226 00:11:20.100 --> 00:11:23.100 not going to be exercised is right if the value 227 00:11:23.100 --> 00:11:27.300 of the asset is greater than the extinguishment values 228 00:11:26.300 --> 00:11:29.400 at that those exercise the right 229 00:11:29.400 --> 00:11:32.200 when it's 80 they don't exercise right when it's 230 00:11:32.200 --> 00:11:33.200 one-handed and 50. 231 00:11:33.800 --> 00:11:37.300 The model which is proposed by Merton A's 232 00:11:36.300 --> 00:11:39.900 shareholders. They hold a 233 00:11:39.900 --> 00:11:42.700 portfolio not just the asset but 234 00:11:42.700 --> 00:11:45.500 there is a put option which is linked with 235 00:11:45.500 --> 00:11:48.700 the relationship. They have with the financial creatures. 236 00:11:48.700 --> 00:11:51.600 Of course, the objective is not to exercise the 237 00:11:51.600 --> 00:11:54.600 option this speculate they 238 00:11:54.600 --> 00:11:57.700 will like to observe an increase in value of the assets. 239 00:11:57.700 --> 00:12:00.400 This is their aim, this is their objective, but just 240 00:12:00.400 --> 00:12:03.300 in case it doesn't work and it's a very 241 00:12:03.300 --> 00:12:06.300 difficult situation then you exercise to put 242 00:12:06.300 --> 00:12:10.200 option which can be regarded as a protection an 243 00:12:09.200 --> 00:12:12.300 insurance. The premium of the option is 244 00:12:12.300 --> 00:12:13.600 the insurance premium. 245 00:12:14.600 --> 00:12:17.400 But if you hold an option, it means that somebody 246 00:12:17.400 --> 00:12:20.600 saw the option who sold the option the Creditor. 247 00:12:21.200 --> 00:12:24.600 And by the way, the option pricing theory is 248 00:12:24.600 --> 00:12:27.400 a very strong support for Bankers to 249 00:12:27.400 --> 00:12:30.200 calculate the premium the calculate the premium 250 00:12:30.200 --> 00:12:33.200 for the risk, the probability multiplied by 251 00:12:33.200 --> 00:12:36.700 the loss in case of default. They had their administrative expenses and 252 00:12:36.700 --> 00:12:39.200 they expected return equity and it 253 00:12:39.200 --> 00:12:40.400 gives you the interest rate. 254 00:12:41.100 --> 00:12:44.600 Now this model is valid. If and only if the 255 00:12:44.600 --> 00:12:47.200 risk is absolutely limited to 256 00:12:47.200 --> 00:12:50.200 the contribution for the shareholders perspective. 257 00:12:51.100 --> 00:12:53.100 If you technical comments around that. 258 00:12:54.100 --> 00:12:58.100 Cool, the share orders are not want to exercise a put they are 259 00:12:57.100 --> 00:13:00.500 speculation is upside value 260 00:13:00.500 --> 00:13:03.400 for the assets, but they have protection in case 261 00:13:03.400 --> 00:13:04.200 of the downside. 262 00:13:04.900 --> 00:13:07.600 Which is very interesting is to 263 00:13:07.600 --> 00:13:10.400 observe that this is a kind of profit and loss 264 00:13:10.400 --> 00:13:11.600 profile of a call option. 265 00:13:12.300 --> 00:13:15.400 So on an economic point of view, they have a call option 266 00:13:15.400 --> 00:13:18.200 because they hope that the value of the asset is 267 00:13:18.200 --> 00:13:21.400 going to be up and if it's down they don't 268 00:13:21.400 --> 00:13:23.900 exercise a call option and they lose the premium. 269 00:13:24.900 --> 00:13:27.500 So you understand that they are in an economic situation of 270 00:13:27.500 --> 00:13:30.300 a call. But in fact, they hold a put 271 00:13:30.300 --> 00:13:33.300 you remember those of you who started options. This 272 00:13:33.300 --> 00:13:36.400 is named the put-called parity. If you 273 00:13:36.400 --> 00:13:39.600 hold an asset plus a put on this asset 274 00:13:39.600 --> 00:13:42.600 it is exactly the same as holding a 275 00:13:42.600 --> 00:13:45.500 call on this asset plus holding 276 00:13:45.500 --> 00:13:48.400 a garden bond, which makes a balance on a finest 277 00:13:48.400 --> 00:13:52.000 point of view. There are multiple applications of 278 00:13:51.500 --> 00:13:53.300 this model. 279 00:13:54.300 --> 00:13:57.200 The one which I would like to mention is a fall of 280 00:13:57.200 --> 00:14:01.400 bearings Bank you remember maybe in 1995 281 00:14:00.400 --> 00:14:03.600 the chief Trader at bearings 282 00:14:03.600 --> 00:14:06.300 based in Singapore speculating on 283 00:14:06.300 --> 00:14:09.900 the Singapore Mercantile Exchange the losses 284 00:14:09.900 --> 00:14:13.300 generated by the training activity eventually LED 285 00:14:12.300 --> 00:14:15.300 bearing Banks to bankruptcy. 286 00:14:16.500 --> 00:14:19.200 The theory which was explained at that time is that 287 00:14:19.200 --> 00:14:22.400 it's just an accident lack of control and so on 288 00:14:22.400 --> 00:14:22.800 so forth. 289 00:14:23.500 --> 00:14:26.700 I would like to suggest you kind of alternative to 290 00:14:26.700 --> 00:14:26.900 this. 291 00:14:27.300 --> 00:14:30.600 According to some rumors at that time bearings was 292 00:14:30.600 --> 00:14:34.000 not doing very well the performance was poor. 293 00:14:34.900 --> 00:14:37.600 And it might be that the bank was 294 00:14:37.600 --> 00:14:40.300 relying on a training activity, 295 00:14:40.300 --> 00:14:43.500 which they were not very well understanding in 296 00:14:43.500 --> 00:14:44.100 London. 297 00:14:44.800 --> 00:14:47.500 To recover its financial performance 298 00:14:47.500 --> 00:14:49.500 to improve its profit. 299 00:14:50.200 --> 00:14:53.200 And so they were betting on the fact that thanks to the 300 00:14:53.200 --> 00:14:56.100 trading they would recover from losses. 301 00:14:56.800 --> 00:14:59.800 Let me give you an example to support this status 302 00:14:59.800 --> 00:15:02.500 imagine that for a company. The Enterprise Value 303 00:15:02.500 --> 00:15:06.500 is 80 the creditors are expecting contractually expecting 304 00:15:06.500 --> 00:15:09.400 100. You understand that the company 305 00:15:09.400 --> 00:15:13.000 the verb is fiately bankrupt. Now 306 00:15:12.600 --> 00:15:15.500 somebody inside the company is proposing a 307 00:15:15.500 --> 00:15:18.800 project. There's a 0.5 probabilities that 308 00:15:18.800 --> 00:15:21.300 it works and there is a 0.5 probabilities that 309 00:15:21.300 --> 00:15:24.900 it doesn't work. If it works then you'll 310 00:15:24.900 --> 00:15:27.700 gain 40 if it doesn't work you lose 311 00:15:27.700 --> 00:15:30.200 40. So you understand the mean is 312 00:15:30.200 --> 00:15:33.500 0.5 times 40 plus 0.5 313 00:15:33.500 --> 00:15:36.600 times minus 40 and the risk the standard deviation. 314 00:15:36.600 --> 00:15:39.800 The variability of the project is 40. Do you 315 00:15:39.800 --> 00:15:42.400 create value investing in an asset whose value 316 00:15:42.400 --> 00:15:45.500 is 0 plus minus 4 easy answer is no the project is 317 00:15:45.500 --> 00:15:48.400 value destroying still the project is 318 00:15:48.400 --> 00:15:49.700 going to be accepted. 319 00:15:50.600 --> 00:15:54.300 Why because if the project works then 320 00:15:53.300 --> 00:15:57.100 the value of the company is 80 plus 321 00:15:56.100 --> 00:16:00.100 40 and it does not go bankrupt if 322 00:15:59.100 --> 00:16:02.500 the project is absolutely not successful. 323 00:16:03.400 --> 00:16:06.900 The net asset value is not minus 20. It's 324 00:16:06.900 --> 00:16:09.600 minus 60 but between quotes 325 00:16:09.600 --> 00:16:12.600 you don't care because this loss of 326 00:16:12.600 --> 00:16:15.100 value is not for the shareholders. It is 327 00:16:15.100 --> 00:16:18.400 at the detriment of creditors. So you 328 00:16:18.400 --> 00:16:21.400 understand that the model which is designed by 329 00:16:21.400 --> 00:16:25.800 Merton makes you understand rationalizes 330 00:16:24.800 --> 00:16:28.000 value destroying 331 00:16:27.600 --> 00:16:30.600 project. Now, let's go back to talc 332 00:16:30.600 --> 00:16:33.900 and to jng the optional analysis 333 00:16:33.900 --> 00:16:37.000 is absolutely relevant because when 334 00:16:36.100 --> 00:16:39.700 you put a company under chapter 11, 335 00:16:39.700 --> 00:16:42.700 it is simply about exercising the 336 00:16:42.700 --> 00:16:44.700 put option which is in your hands. 337 00:16:45.500 --> 00:16:48.600 You have to add plenty of legal aspects which 338 00:16:48.600 --> 00:16:51.900 I am not going to develop for the reason I mentioned 339 00:16:51.900 --> 00:16:54.500 before but what is very interesting 340 00:16:54.500 --> 00:16:57.800 is the Merton model works perfectly, 341 00:16:57.800 --> 00:17:00.500 but it's valid if and only 342 00:17:00.500 --> 00:17:03.100 if the responsibility of the 343 00:17:03.100 --> 00:17:07.100 shareholders is limited to their contribution. 344 00:17:06.100 --> 00:17:09.800 What did the Philadelphia court of 345 00:17:09.800 --> 00:17:10.800 appeals do? 346 00:17:11.500 --> 00:17:14.100 The court simply destroyed the 347 00:17:14.100 --> 00:17:18.000 option it destroyed the option because it replaced limited 348 00:17:17.400 --> 00:17:21.200 to indefinite responsibility. The 349 00:17:20.200 --> 00:17:23.200 option does not exist anymore. 350 00:17:24.500 --> 00:17:27.700 The Merton model belongs to a nice World which 351 00:17:27.700 --> 00:17:31.300 is named real options. It's an extremely powerful 352 00:17:30.300 --> 00:17:33.500 concept with plenty of 353 00:17:33.500 --> 00:17:36.100 applications. The Myrtle model is one of 354 00:17:36.100 --> 00:17:39.300 them and there will be plenty of opportunity in 355 00:17:39.300 --> 00:17:42.600 the life of the academy to illustrate the 356 00:17:42.600 --> 00:17:45.100 concept of real options with different situations. 357 00:17:46.100 --> 00:17:46.700 Thank you very much.