The only things certain in life are death and taxes

In an age where emphasis is placed on improving turnover and reducing costs, it is no wonder many organisations have begun to view tax as an expense they can reduce. Tax is a legal obligation and whilst tax evasion is illegal, tax avoidance is not. The key debate is whether organisations are acting ethically by using tax avoidance schemes.

Margaret Hope (Chair of the Public Accounts Committee) argues tax avoidance is "completely and utterly immoral", a view echoed by much of the media and British MPs. Whereas, Eric Schmidt (Google's Chairman) is proud of his company's avoidance and argues they acted within the rules set out by governments. So, who is right? As with any ethical dilemma, this is a difficult debate and depends entirely on what the observer of the activity believes is legitimate behaviour.

It was once said that "the only things certain in life are death and taxes", although this quote was aimed at individuals I believe the meaning still stands with organisations. Tax is a legal obligation and is something no one can avoid. We as individuals are required to pay tax upon our earnings, value added tax (VAT) is included in the majority of our purchases and business are required to pay corporation tax. It's safe to say that at some point in your life you're going to pay tax. But, who's to say that you shouldn't try to minimise the amount you're paying? That I believe is the real issue. We can argue all day about whether tax avoidance is immoral, but we wont resolve the dilemma unless we adress the fundamental problem, and that is how do we stop tax avoidance from happening? 

Since the announcement at the end of 2012 that Starbucks, Google and Amazon had all used tax avoidance schemes to improve their financial positions, the need for combatting the issues has become apparent. Unfortunately, this is not something that can easily be done by one government alone and is why the G20 committee have convened this week to come up with a global strategy for resolution. But how easy will this resolution be? In my opinion, not very.

The underlying issue is the irregularity of tax rates across the world. The UK has a corporation tax rate of 26% (2012), whereas companies in Ireland pay just 12.5% (2012). In the USA corporation tax is 35% (2012), whilst the Cayman Islands have a tax rate of 0% (2012). It is this range of tax rates and an increasing ease to set up companies abroad which has led the way for tax avoidance. And although the resolution seems simple, setting one standard tax rate for all countries across the world is not an option. Doing this will only result in damaged relations and reduce the ability for organisations to trade and develop internationally.

I personally don't believe tax avoidance is immoral. If an organisation is playing within the rules then I do not see why an organisation should not be able to exploit these. However, it is very likely that Google, Starbucks and Amazon will not be the only companies criticised by the media over the next 12 months for using tax avoidance schemes and to ensure that some tax is payed into the UK economy I definitely agree that something needs to be done to combat the issue. What that something is, I do not know. That is in the hands of the G20 committee, and is a piece of news I look forward to reading.

Investment Financing

Organisations are faced with two alternative methods of financing when considering potential investment opportunities; debt and equity. But which is best? The answer is, there is no right answer. Both debt and equity financing have their benefits and criticisms, and the decision as to which path to choose is solely dependent on the company's circumstances.

Last week I briefly touched on equity financing when considering stock markets, this week I will focus on debt financing.

Debt financing is money raised through the use of loans, bonds or Euronotes. This method requires the repayment of the initial investment value, either at regular intervals or at the end of a fixed term period, as well as additional interest payments.

When considering debt financing there are two factors an organisation must take into account; the cost of capital, and the rate of return. In order to maximise shareholder wealth, chosen investments should always have a rate of return higher than the cost of capital. In my opinion this is a simple concept, but yet it seems some organisations choose to ignore this idea and invest in 'loss leader' projects, a typical example of this being Sony with it's PS3. In some instances loss leaders pay off, in others they don't. However, some firms just fail to take into account the cost of capital and the rate of return, entering into projects which are ultimately likely to fail.

This week it was announced that 3G and Berkshire Hathaway were to initiate a takeover of Heinz. Although the full extent of the takeover has not yet been disclosed, it is believed that the deal will result in over $12bn in debt, interest repayments and a yearly 9% dividend that will use up the majority of the company's cash flow. As the details of this investment is explained, it will be interesting to see whether this investment will turn out to be a successful loss leader project, or whether the returns verse cost have not been taken into consideration at all.

Although this investment has been criticised, it is a good example of what I believe is the best financing option available to firms. In this instance, the finance was raised through both equity and debt, thus providing the advantages of both techniques, whilst combating some of this disadvantages. in my opinion this is the better option for firms to invest in as it minimises the costs and risks involved in investments.

Efficiency of the London Stock Exchange

The London Stock Exchange (LSE), founded in 1801, is the fourth largest stock exchange in the world and the largest in Europe (2011 figures). As one of the most international stock exchanges in the world, with approximately 3,000 companies from over 70 countries listed, it is a prime location for companies and investors to consider when looking for new opportunities. However, prior to listing or investing, the efficiency of the market should be determined. To do this we must first ask, what is a stock exchange?

A stock exchange, also known as a stock market, is an organised market in which industrial and financial securities can be sold and purchase. They provide a convenient place for trading securities in a systematic manner, and are indispensable for the smooth and orderly functioning of the corporate sector within a free market economy.

It is argued in the efficient market hypothesis (EMH) that an efficient market is one in which prices fully reflect all available information relating to a particular stock or market. Therefore, no investor would have a competitive advantage over another and there would be no instances in which a return on a stock price can be predicted, as no individual would have access to information that others did not. But is this true of the LSE?

If the EMH is correct then the price of a share on the market should only change when information is made publicly available. To test this theory, let's consider the share price for Tesco in the few weeks prior to, and after, the announcement on 15th January 2013 that horse meat was discovered in beef burgers on sale in Tesco stores.

Tesco PLC Share Price
1st January 2013 - 7th February 2013
(London Stock Exchange, 2013)

As could be expected, Tesco's share price fell to it's lowest (347.1) for the period the day after the announcement was made (16th January 2013). However, what is interesting is the decline in share price from 10th January 2013.

Between Tesco's announcement on 10th January that Christmas sales were the best they had seen in three years, and the announcement of the horse meat discovery, no other announcements were made which should have caused the decline. This suggests the possibility that the information may have been made aware to some investors, prior to the public announcement, therefore causing a premature decrease.

This case isn't the only one which disproves that the LSE does not follow the EMH. HMV's share price fell significantly, prior to the announcement that they were going into administration, again suggesting that some investors knew of the news before the actual announcement was made. So, if the LSE is not efficient according to the EMH, to what extent is it efficient?

It is suggested there are three forms of efficiency within a stock exchange; weak, semi-strong and strong. Within weak form efficient markets, future share prices cannot be predicted by analysing past previous. Share prices are believed to follow a 'random walk', meaning there are no patterns or trends and that future price movements are solely based upon information not contained within the price series. Therefore, within this type of economy an individual investing with no prior research will receive the same level of return as those purchased based upon a recommendation from an analyst who has studied historical data.

A semi-strong efficient market reflect all relevant publicly available information, including past price movements and information relating to changes in management, the issues of dividends and profit levels. Therefore, within these types of market there is no need for an analyst to consider historical information as they have already been absorbed into the market price.

Strong-form efficiency reflects all public and privately available information. This market allows for insider-trading to occur, and can leave external investors feeling cheated.

Although, in the cases discussed, there is some suggestions of a possibility of insider trading there is no evidence to prove this. The majority of movements on the market do follow publicly made announcements with other increases/decreases reflecting previous trends regarding similar issues. Therefore, I believe that the LSE is a semi-strong efficient market. However, I do feel that a shift to strong-form efficient market could be possible if regulations are not effectively enforced.

Shareholder Wealth Maximisation

Management of an organisation are faced with a number of objectives they can pursue, for example sales maximisation, profit maximisation, market share dominance and social responsibility. But which is the most appropriate? It is argued, for publicly listed companies, that management should focus on making investment and finance decisions that maximise shareholder wealth. Doing so is believed to encourage goal congruence throughout the organisation and create a competitive market as everyone fights for investment opportunities, as well as encouraging potential investors and discouraging existing shareholders from using an exiting strategy. But is shareholder wealth maximisation as simple as the concept seems?

Research in Motion (RIM), the company behind BlackBerry, recently announced the long awaited arrival of the BlackBerry 10 operating system and two new handsets (the Z10 and Q10). After a difficult few years, in which BlackBerry’s market share dropped from 19% in 2010 to 4% in 2012, the new operating system and handsets are aimed to rival it’s major competitors (the iPhone and Android phones), saving the company and maximising shareholder wealth at the same time. But how effective is BlackBerry’s strategy?

BlackBerry rose to success by providing a phone suitable for corporate business workers who needed to keep in touch with colleagues and clients on the move. The original products had a QWERTY keyboard that made replying to emails quicker and simpler, whilst providing a secure network in which messages can be sent via. It’s safe to say at the height of it’s popularity; BlackBerry understood the needs of the corporate market and met them almost perfectly.

Young consumers looking for a cheap way to communicate with their friends soon caught on to BlackBerry’s free instant-messenger service, known as BBM, and the company’s popularity began to grow within a new market segment. This diversifying consumer base meant that BlackBerry now had to consider the needs of young consumers as well as those of their corporate customers.

The Q10 and Z10 are aimed to compete with the iPhone and Android phones, allowing BlackBerry to become a significant player in the smart phone market once again. However, although the capabilities of these phones are a significant improvement for BlackBerry, they are still playing catch-up with their rivals. So, was this the right move for BlackBerry?

Upon the release of BlackBerry 10, the organisation’s shares fell by more than 6%, suggesting the market does not fully believe that this will be BlackBerry’s saviour, and I have to agree. The new BlackBerry Q10 is designed with corporate consumers in mind as it provides a traditional QWERTY keyboard BlackBerry was originally known for.  Whilst the Z10 is aimed with individual consumers in mind by providing a simple touch-screen phone many of its rival’s process. Producing two different handsets with two different consumer bases in mind seems a sensible strategy in principle, but I believe this may lead to BlackBerry’s downfall.

In my opinion, BlackBerry have spent too long and too much capital on developing a handset and an operating system that can meet the needs of two different consumer demands, which has resulted in a price equal to that of the iPhone 5 but a product that is still playing catch-up in it’s capabilities. In order to maximise shareholder wealth, and ensure it’s survival, BlackBerry needed to release a product that would outshine all others on the market and neither the Z10 nor the Q10 have done so. Although the phones may prove popular amongst loyal BlackBerry fans that have been awaiting this release with anticipation, I do not feel that the products will attract new or previous BlackBerry fans to the brand, and the organisation cannot rely on their existing market base to drive them into the future.

BlackBerry should have focused solely on producing a phone tailored exactly to the needs of the corporate customers and worked on successfully re-building their market base before trying to diversify to meet the needs of other consumers. The strength of the BlackBerry has always been their networks and security, and it feels as though the organisation has forgotten this fact and tried too hard to be like every other product on the market.

The future of BlackBerry is uncertain and I think only time will tell the extent to which this investment succeeded, but at present it doesn’t look positive. If I were a shareholder, after seeing the reaction to the product, I would be seriously reconsidering my position within the organisation, as I cannot see anyway in which this investment will provide good returns.