Fuqua School of Business Emerging Markets Corporate Finance

Contents

1. Industry Overview

2. WTC Wood Project

3. Country Overview

4. Risk Analysis

5. Project Appraisal

1. Industry Overview1. Industry Overview

The Tropical Wood Industry• U$ 6.6 billion industry• Vigorous growth in the past decade due to:

– a) lower trade barriers – b) increasing demand for wooden furniture– c) buoyant construction and renovation activity in

developed markets• Demand growth expected at 9-10% per

annum in the medium term (ITC)• Gradual tendency to substitute wood for non-

wood materials (bio-composite, plastic, aluminum)

World Exports of further processed wood products (ITTO)

0

1000

2000

3000

4000

5000

6000

7000

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

U$ M

Source: International Trade Center, 2002

The geography of the tropical wood industry

Africa: 1%Africa: 1%

LA-mkt share 12%16%

7%

As-mkt-share91%

87%

83%

Asia: 83%Asia: 83%

LA: 16%LA: 16%

Source: International Trade Center, 2002

Forestry Potential

1

IND IND PNG MYN MAL THA CAM PHI FIJ

0 100 200 300 400 500 600 700 800 900

1

BRA PER COL Bolivia VEN GUY SUR ECU HON PAN T&T

Area (M of hs.)

Asia

Latin

Am

erica

Saturation

Deforestation

Extinction of wood species

Larger potential

More sustainable forest practices

Source: International Trade Center, 2002

The Bolivian Tropical Forest

• 7th largest in the world (49 M hs.)• Over 360 wood species• Operating at less than 1% of its full

potential• 1,000,000 hs. recently certified for

sustainable exploitation• Currently low value-added

commercial timber only

2. TWC Wood Project2. TWC Wood Project

The Tropical Wood Consortium• Created in 2004 to explore investment

opportunities in the Bolivian forestry sector • Spearheaded by Tahuamanu

TAHUAMANU S.ATAHUAMANU S.A

SMEs (Bolivia)SMEs

(Bolivia)Large

(Brazil, Ecuador)Large

(Brazil, Ecuador)

Technology Suppliers

(Germany)

Technology Suppliers

(Germany)

Andean Development Corporation

Andean Development Corporation

Tahuamanu S.A.• The world’s largest producer of processed Brazil Nuts• Seeking diversification (nut production reaching saturation)• Extensive experience in sustainable forest management• High managerial and industrial capacity • Long-established international marketing channels

Tahuamanu's exports

0

20,000

40,000

60,000

80,000

100,000

120,000

140,000

160,000

180,000

200,000

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

Volu

me

(20K

g-bo

xes)

Tahuamanu's market share

2.00%

4.00%

6.00%

8.00%

10.00%

12.00%

14.00%

16.00%

18.00%

20.00%19

91

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

U$ 6M annual revenues

Source: Tahuamanu, 2004

Wood Processing Project

Private concessions

(50%)

Private concessions

(50%)

Community-based

suppliers(50%)

Community-based

suppliers(50%)

130,000 m3/y of raw material 130,000 m3/y of raw material

Subcontractors(70%)

Subcontractors(70%)

Own extraction

(30%)

Own extraction

(30%)Sawing (50%)

Sawing (50%)

Precious (4%)

Precious (4%)

Soft (46%)

Soft (46%)

Hard (50%)

Hard (50%)

Laminating(46%)

Laminating(46%)

Slicing(4%)

Slicing(4%)

PlywoodPlywood

VermeerVermeer

PanelsPanels

Para

nagu

a Sa

ntos

Para

nagu

a Sa

ntos

Bele

mBe

lem

Europe(30%)

Europe(30%)

US (40%)

US (40%)

RegionalBR-AR(30%)

RegionalBR-AR(30%)La

Paz

La P

az

Land-River-Sea Land-River-Sea

Land Land

58,000 m3/y of processed wood

MaintenanceMaintenance

Brokers Brokers

RAW MATERIAL

RAW MATERIAL

EXTRACTIONEXTRACTION TRANSP.PLANT

TRANSP.PLANT

PROCESSPROCESS PRODUCTPRODUCT TRANSP. MARKETS

TRANSP. MARKETS

EnergyEnergy

Internalized activityInternalized activity

OutsourcedOutsourced

Subc

ontra

ctor

s

187,000 he of forest land /20y

Marketing

Transportation Alternatives

Manaus (1,650Km)

Belem (3,015 Km)

Arquemes

Sao Paolo

Manaus (1,650Km)

Belem (3,015 Km)

Arquemes

Sao Paolo

Manaus (1,650Km)

Belem (3,015 Km)

Arquemes

Sao Paolo

Manaus (1,650Km)

Belem (3,015 Km)

Arquemes

Sao Paolo

North American markets

North American markets

European markets

European markets

Regional marketsRegional marketsFuture alternative

portsFuture alternative

ports

TT

Likely Financial StructureU$000 %

Total Investment 12,922 1.00

Debt 4,523 0.35 IIC-IADB 2,500 0.19 IFC-WB 1,500 0.12 Commercial 523 0.04

Equity 8,399 0.65 Tahuamanu 3,877 0.30 Brazil/Ecuador Partners 1,034 0.08 SMEs 775 0.06 International Furniture 646 0.05 Technology Supplier 646 0.05 USAID-GDA 646 0.05 PUMA Foundation 388 0.03 Andean Development Corporation* 388 0.03 *Subordinated loan (Quasi-equity)

Key Success Factors

Price Price AdvantageAdvantage

Price Price AdvantageAdvantage

-Wood-Nut synergy (extraction, storage, transportation, labor)-Economies of scale and scope-Tax-free industrial park (20% cost savings)-Low labor/production costs

-Bolivian Tropical Forest at 1% of full capacity

- One of the world's largest certified forest

-International demand expected to grow steadily -Market integration (FTAA + MERCOSUR)

- Modern regulatory and legal framework

SUCCESS

-Outsourcing -Strategic location

- Transportation alternatives through BR/PER- Access to the Brazilian wood cluster- Isolated from political conflict

FlexibilityFlexibility FlexibilityFlexibility

-Forestry management

-International marketing

-Industrial capacity (larger than most competitors)

-Continuous technological upgrading

-Knowledge of local suppliers

-Continuous learning through inter-firm cooperation

Internal Internal capabilitiecapabilitie

ss

Internal Internal capabilitiecapabilitie

ss

Growth Growth PotentialPotentialGrowth Growth

PotentialPotential

Major obstacles and mitigating factors

• Learning costs (new industry)

• Lack of infrastructure (roads, communications)

• Expensive energy

• Lack of supporting and related industries

• Long distance to ports

• Political instability

•Tahuamanu’s high managerial and industrial capabilities

•Inter-firm cooperation (consortium modality)

•Tahuamanu’s high managerial and industrial capabilities

•Inter-firm cooperation (consortium modality)

Strategic location (flexibility to use more reliable infrastructure in Brazil/Peru)Strategic location (flexibility to use more reliable infrastructure in Brazil/Peru)

Investment in a wood-based energy generating plantInvestment in a wood-based energy generating plant

Strategic Location (access to the Brazilian wood-processing cluster)Strategic Location (access to the Brazilian wood-processing cluster)

Value-added processed products with lower incidence of transportation costsValue-added processed products with lower incidence of transportation costs

Strategic location (isolated from the most conflictive regions)Strategic location (isolated from the most conflictive regions)

3. Country Overview3. Country Overview

Bolivia: Basics

Landlocked country located in the center of South American

Area: 1 million sq km (about three times the size of Montana)

Population: 8.7 million

Natural resources: tin, natural gas, petroleum, timber and others

Poorest country in South America - poverty rate - 60%

- GDP per capita - 900 USD

Source: CIA, 2003, World Bank, 2003

Bolivia: Economic Environment

GDP growth:1.5%/y (1990-2001)

23 years of democracy and 20 years of market reforms

Economic Reforms Package:

- liberalization of prices, exchange and interest rates

- privatizations

- trade and capital account liberalization

Results : macroeconomic stabilization (low inflation rates, stable ER, etc.)

However: stagnant growth

Source: World Bank, 2004

Bolivia: Key Comparative Indicators

Source: World Bank, 2004

Governance Indicators (2002)

Source: D. Kaufman, A. Kraay, and M. Mastruzzi (2003). World Bank Policy Research Working Paper

The major obstacles for doing business in Bolivia

How problematic are obstacles in the business environment in the following areas?

0

1F

ina

ncin

g

Infr

astr

uctu

re

Ta

xe

s a

nd

Re

gu

latio

ns

Po

licy

Ine

sta

bili

ty

Infla

tion

Exch

an

ge

Ra

te

Fu

nctio

nin

g

of Ju

dic

iary

Co

rru

ptio

n

Str

ee

t C

rim

e

Org

an

ize

d

Crim

e

An

ti

co

mp

etit

ive

1 2 3 4 5 6 7 8 9 10 11

% r

esp

on

da

nts

.

Source: World Bank, Doing business 2003

Political Environment Since 1980s – constant social tension driven by poor economic conditions, income and regional disparities, ethnic conflict and wide-spread drug production and trafficking.

Since the early 2003, conflicts have taken a violent tenor:

- in October 2003 President Gonzalo Sánchez de Lozada, an unconditional supporter of market reforms resigned after two months of rioting and strikes

- a separatist movement led by agricultural-rich elites in western Bolivia is gaining momentum

The current president has lost control over the congress and is seen as “weak” in dealing with social pressure. Recent attempts to modify the legal framework for the energy sector has increased legal uncertainty.

Comparative Historical Risk

Overall risk comprises:

a) Economic risk

b) Operational risk

c) Political risk

World Markets Research Center, September 2004

4. Risk Assessment4. Risk Assessment

Cost of Capital WorksheetRisk Premium Calculation

Inputs Output Category

4.00 U.S. risk free in %

3.50 U.S. risk premium in %

93.70 Current U.S. Credit Rating

24.40 Institutional Investor country credit rating (0-100)

31.32 Anchored Cost of Equity Capital for project of average risk in country (ICCRC)

23.82 Country Risk Premium

Industry Adjustment

1.05 Beta (Industry)

-3.50 Sector adjustment

Project Risk Mitigation

(-10 to 10; where 10=risk completely eliminated, 0=average for country)

Weights ScoreImpact on Country

Premium Risks

Sovereign0.35 6.00 -5.00 Currency (convertibility)0.05 3.00 -0.36 Expropriation-direct0.04 0.00 0.00 Expropriation-diversion0.04 6.00 -0.57 Expropriation-creeping0.04 3.00 -0.29 Commercial International partners0.04 5.00 -0.48 Involvement of Multilateral Agencies0.03 0.00 0.00 Sensitivity of Project to wars, strikes, terrorism0.03 -3.00 0.21 Sensitivity of Project to natural disasters

Operating-Precompletion (setting up the plant)0.02 -4.00 0.19 Resources available (quantity/quality) -part not in discount rate0.02 -6.00 0.29 Technology (proven technology) -part not in discount rate

Operating-Post-completion0.03 7.00 -0.50 Sensitivity of operations to blockades, riots and other disruptions associated with political instability0.02 3.00 -0.14 Market risks (prices of outputs and demand)0.02 8.00 -0.38 Supply/input risk (availability)0.01 8.00 -0.19 Throughput risk (material put through plus efficiency of systems operation)0.02 -5.00 0.24 Operating costs

Financial0.03 4.00 -0.29 Probability of Default0.02 0.00 0.00 Political Risk Insurance

Real Options (some handled through cash flows)0.02 7.00 -0.33 Input mix or process flexibility0.02 6.00 -0.29 Output mix or product flexibility0.01 0.00 Abandonment or termination0.02 6.00 -0.29 Temporary stop or shutdown0.02 4.00 -0.19 Intensity or operating scale0.02 7.00 -0.33 Expansion0.03 8.00 -0.57 Interproject/intraproject0.02 -3.00 0.14 Shadow costs0.03 8.00 -0.57 Financial Flexibility

1.00 Sum of weights

Project Cost of Capital 18.12

Risk Premium (Country)

Risk Premium CalculationInputs Output Category

4.00 U.S. risk free in % 10-year T-bond

3.50 U.S. risk premium in %93.70 Current U.S. Credit Rating Sep/04

24.40 Institutional Investor country credit rating (0-100)27.4 (Sep/04) - 3 to account for escalating social conflicts (Jan-Mar/04)

31.32 Anchored Cost of Equity Capital for project of average risk in country (ICCRC)

23.82 Country Risk Premium

Industry Adjustment

1.05 Beta (Industry) MSCI 12/99

-3.50 Sector adjustment

Weights Score

Impact on Country Premium Risks Mitigating factors Aggravating factors

Sovereign0.35 6.00 -5.00 Currency (convertibility) -Most of the production will be priced and sold

in international markets (90%).-The U$/Bs exchange rate has been stable in the last 20 years.-Diversified markets (US, Europe, South America, possibly Asia).

-Nearly 30% of production expected to be sold in regional markets that are more prone to exchange rate volatility (Argentina, Brazil).-Operational costs are to be incurred in two currencies (Brazil, Bolivia).-Growing fiscal deficit.

0.05 3.00 -0.36 Expropriation-direct -Bolivia has shown a strong commitment to market reforms and property rights.-The forestry sector in general is not considered strategic for the economy/government.-The project will own no land (supply of raw material through concessionaries)

0.04 0.00 0.00 Expropriation-diversion -Government with no stake in the project.

0.04 6.00 -0.57 Expropriation-creeping -Project located in a tax-free export processing zone.-The government has recently enacted a comprehensive forestry law.

-Increasing legal uncertainty; a) changes in the legal framework for the energy sector, b) A French utility company forced to terminate its contract.

0.04 3.00 -0.29 Commercial International partners -TWC will work closely with long-established supporting and related industries in Brazil.-TWC is reaching out to Brazilian and Ecuadorian wood processors to join the consortium.-USAID, Andean Development Corporation.

- No international partner directly involved in the initial phase of the project.

0.04 5.00 -0.48 Involvement of Multilateral Agencies -Financing likely to include loans from WB-IFC, IIC-IADB, KFW, CAF

0.03 0.00 0.00 Sensitivity of Project to wars, strikes, terrorism

0.03 -3.00 0.21 Sensitivity of Project to natural disasters -High levels of humidity in the Bolivian forest reduce the likelihood of wood fires.

-Vulnerability to wood fires and floods.

Operating-Precompletion (setting up the plant)

0.02 -4.00 0.19 Resources available (quantity/quality) -part not in discount rate

-No experience in setting up a wood processing plant.

0.02 -6.00 0.29 Technology (proven technology) -part not in discount rate

-TWC seeking local and international partners to acquire the necessary expertise in wood processing technology.

-Learning costs associated with adapting and mastering new technology.

Operating-Post-completion

0.03 7.00 -0.50 Sensitivity of operations to blockades, riots and other disruptions associated with political instability

-The project is located in a border city far from the regions more prone to social unrest.-Flexibility to use the transportation and communication systems of bordering Brazilian/Peruvian cities in case of domestic disruptions.

0.02 3.00 -0.14 Market risks (prices of outputs and demand) -Demand/price of processed tropical wood expected to increase steadily in the medium term (ITC).

-Some price volatility observed in low-value added products.-Increasing substitution of wood for non-wood products (bio-composite, plastic, aluminum etc.).-Central and Eastern European wood suppliers expected to capture part of the EU market.

0.02 8.00 -0.38 Supply/input risk (availability) -The seventh largest and most diverse forests in the world at 2% of full capacity. -Experience in forest management and working with indigenous communities.-The nut-wood synergy guarantees a year-round availability of labor with no reallocation costs.

0.01 8.00 -0.19 Throughput risk (material put through plus efficiency of systems operation)

-The plant is designed to process 35 species of hard, soft and precious wood in order to maximize throughput and reap economies of scale.-Nut-wood synergy expected to reduce extraction and transportation costs.

0.02 -5.00 0.24 Operating costs -Learning through inter-firm cooperation.-Outsourcing to Brazilian supporting industries (transportation, extraction, maintenance).-Flexibility to use Brazilian/Peruvian road networks.-Plant located far from the regions more prone to social conflict.

-Learning costs (no experience in wood production).-Expensive and unreliable transportation through Bolivia.-Operational risk due to political instability (road blockades, strikes, riots).

Financial

0.03 4.00 -0.29 Probability of Default -Tahuamanu has a high credit record (it has never defaulted on its debt).

-No experience/expertise in wood-processing

0.02 0.00 0.00 Political Risk Insurance

Real Options

0.02 7.00 -0.33 Input mix or process flexibility - Only 35 out of 360 wood species will be initially exploited.

0.02 6.00 -0.29 Output mix or product flexibility -Technology can be easily adapted to manufacture other types of products in the future.

0.01 0.00 Abandonment or termination -Since TWC will own no land and outsource many activities, the cost of termination is relatively low.-Marketable technology/infrastructure (easy to be resold).

0.02 6.00 -0.29 Temporary stop or shutdown -Since TWC will own no land and some of the processes are outsourced, the cost of temporary shutdown is relatively low.-Labor-intensive processes to be outsourced (extraction, transportation).

0.02 4.00 -0.19 Intensity or operating scale -Plant designed with overcapacity to allow production flexibility

-Full capacity reached in year 6 according to projections.

0.02 7.00 -0.33 Expansion -Availability of inputs (wood forest)-Relatively simple infrastructure/technology.-Technology supplier likely to be part of the consortium (easy access to technology for expansion/upgrading).

0.03 8.00 -0.57 Interproject/intraproject -The synergy between nut and wood processing will make both industries more competitive and allow for future expansion projects to take place.

0.02 -3.00 0.14 Shadow costs -Project design and implementation requires Tahuamanu's management and engineering time.

-Brazil nut production reaching saturation (not many expansion opportunities).

0.03 8.00 -0.57 Financial Flexibility -Low initial leverage (0.35 debt/equity ratio)

5. Project Appraisal5. Project Appraisal

Cost of DebtU$000 %

Total Investment 12,922 1.00

Debt 4,523 0.35 Cost Weight Weight * Cost

IIC-IADB 2,500 0.19 0.080 0.55 0.044

IFC-WB 1,500 0.12 0.082 0.33 0.027

Commercial 523 0.04 0.093 0.12 0.011

Equity 8,399 0.65 Cost of Debt (Kd) 0.082

Tahuamanu 3,877 0.30 Brazil/Ecuador Partners 1,034 0.08 SMEs 775 0.06 International Furniture 646 0.05 Technology Supplier 646 0.05 USAID-GDA 646 0.05 PUMA Foundation 388 0.03 Andean Development Corporation* 388 0.03 *Subordinated loan (Quasi-equity)

Valuation

Scenario 1with real options

Scenario 2no real options

Ke 18.12 20.31 Kd 8.19 8.19 t - - D 0.35 0.35 E 0.65 0.65

WACC 14.65 16.07

NPV $6,248.43 $4,947.86IRR 25% 25%Pay-Back 6.1 6.1

Net Present Value of real options $1,300.57

Different ScenariosU$ 000

Scenario 1with real options

Scenario 2no real options

Scenario 3different leverage

Scenario 4effective tax of 20%

imposedTWC valuation

Ke 18.12 20.31 19.60 18.12 Kd 8.2 8.2 11.5 7.2 t - - - 0.20 D 0.35 0.35 0.60 0.35 E 0.65 0.65 0.40 0.65 WACC 14.65 16.07 14.74 13.80 11.20

- - - - NPV $6,248.43 $4,947.86 $6,156.27 $4,372.78 $8,658.29IRR 25% 25% 25% 22% 24%Pay-Back 6.10 6.10 6.10 6.10 $6.10

TWC is unable to find equity partners and has to leverage more. Implies higher financial distress and reduces future growth options

Tax is imposed (export processing zone ceases)

Some risk accounted for in cash flow projections

Thank you