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NegoSim

Business Simulation

Executive Guide

2020
CONTENTS
1 - THE WORLD OF NEGOSIM ...............................................................................................................................2
2 - DECISIONS .......................................................................................................................................................2
2.1 Production ........................................................................................................................................................ 2
a) Investment / Divestment ............................................................................................................................... 2
b) Procurement .................................................................................................................................................. 2
c) Production ..................................................................................................................................................... 2
d) Quality Effort ................................................................................................................................................. 3
2.2 Marketing ......................................................................................................................................................... 3
a) Domestic Market ........................................................................................................................................... 3
b) Export Market ............................................................................................................................................... 3
2.3 Finance ............................................................................................................................................................. 4
a) Medium-term Loans ...................................................................................................................................... 4
b) Equity Issues .................................................................................................................................................. 4
2.4 New Business Exploration ................................................................................................................................ 4
2.5 New Business Building ..................................................................................................................................... 5
3 - CONTRACTING ................................................................................................................................................6
3.1 Procurement Contracts .................................................................................................................................... 6
3.2 Finished Goods Contracts ................................................................................................................................ 6
3.3 Production Joint Ventures................................................................................................................................ 7
3.4 Exploration Alliances ........................................................................................................................................ 7
4 - THE MAIN YARDSTICK .....................................................................................................................................7
5 - RESULTS ..........................................................................................................................................................7
5.1 Production Report ............................................................................................................................................ 7
a) Raw materials ............................................................................................................................................... 7
b) Manufacturing Statement............................................................................................................................. 8
5.2 Sales Report ..................................................................................................................................................... 8
5.3 Competitive Info .............................................................................................................................................. 8
5.4 Other Information .......................................................................................................................................... 10
a) Project Committee rating ............................................................................................................................ 10
b) Strategic Niche ............................................................................................................................................ 10
APPENDIX 1: DATA SHEET ..................................................................................................................................11
A. Procurement .................................................................................................................................................... 11
B. Production ....................................................................................................................................................... 11
C. Market Characteristics ..................................................................................................................................... 11
D. Transaction Costs ............................................................................................................................................. 12
E. Finance ............................................................................................................................................................. 12
F. Other data ........................................................................................................................................................ 13
G. Production Joint Ventures ............................................................................................................................... 14
APPENDIX 2: MARKET TO BOOK RATIO ..............................................................................................................15
2
1 - The World of NegoSim
Your company produces an electronic device used as a component in many other industries throughout
the world. It is found in various kinds of equipment, ranging from common household appliances to
sophisticated office equipment. This is a Business to Business market.

The NegoSim Business simulation creates a global environment, with firms operating in different
countries: Germany, Japan, Malaysia, Portugal and the USA.
Each country has unique attributes in terms of level of development, market size, labour costs and
customers’ sensitivity to product quality.
For the sake of simplicity all transactions are expressed in a single currency, the Euro (€).

For the time being, your company produces and markets products only in its own country. As described
below and depending on your strategy choices and operating decisions, this may change over time.

2 - Decisions
The decisions you face fall into 5 categories: Manufacturing, Marketing, Finance, R&D and Exploration,
and New Business Development.

2.1 Production
Finished products are manufactured in plants using one of 2 technologies, A or B. Detailed figures for
each technology are provided in the Data Sheet (Appendix) under the item: B. Production. For the time
being, all companies are using A plants only.

a) Investment / Divestment
Your firm’s production capacity (and/or the technology it uses) may be modified by purchasing or selling
plants: in the decision sheet, a new plant is bought by entering “+1”, an old one is sold with a minus sign,
“-1“.
Any plant you buy is paid cash and is immediately available for production.
A plant you sell is no longer available for production in the considered period. Plants are disposed of for
their Net book value and the proceeds of the sale are received in the same period.
When altering the production capacity through the purchase/sale of plants, the number of employees is
automatically and immediately adjusted through hiring/dismissal. Any excess employees are
automatically laid-off but they get a quarter’s pay as compensation!

b) Procurement
Raw materials can be bought on the world market with discounts for large quantities ordered; see Data
Sheet: A. Procurement. They are delivered and usable during the quarter when they are ordered.
If your available raw materials do not meet your production schedule, emergency deliveries of additional
units will be made through spot purchases (at a significantly higher price).
Raw Materials may also be bought from other firms participating in the simulation; see 3.1 Procurement
Contracts.

c) Production
The amount you decide to produce in a specific period is constrained by the production capacity. The
characteristics of each type of plant are described in Data Sheet: B. Production, The lowest possible unit
cost is always reached at optimal output level.

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The maximum output is 120% of the optimal output. Overtime hours are paid 50% more than normal
hours. For example, if you produce the maximum output of 1,200 units with one Technology A plant,
labour costs will increase from €32,500 to €42,250.
To benefit from different country-related costs, companies can set up Production Joint Ventures in
partnership with local firms; see Production JV Contracts in 3.3.

d) Quality Efforts
Quality efforts should be understood as product improvement expenses. They influence the product
defect rate. Clients are quite sensitive to the average product defect rate since it influences their own
rejection rate: the average Quality prevailing in each country can be found in Data Sheet: C. Market
Characteristics.
If products with a lower ‘quality grade’ are added to your inventory, the average defect rate increases
and products sold are stamped with a lower average grade.
For the sake of simplicity, product improvement expenses have the same effect irrespective of where
the plant is located.

2.2 Marketing
Finished goods are sold through market sales (domestic or export markets) or through direct contracts
negotiated with other firms.

a) Domestic Market
On your domestic market, marketing decisions have to do with Price and Commercial Effort.
Commercial Effort is a global effort: it comprises advertising, sales force costs and customer support
expenses. Market sensitivity to Commercial Effort is quite different from country to country. The
Commercial Effort to Sales ratio provides a good indicator of the average Commercial Effort in each
country (see “Competitive Info” in the Results).

b) Export Market
In order to export to other countries, click on the ‘Export’ tab in the Decision sheet.
For each market you must decide what Quantity you intend to export, the selling Price, the Commercial
Effort and the product Grade.
The Quantity for Export is set aside in a warehouse and is no longer available for domestic sales during
the period. There is, of course, no guarantee that this quantity will indeed be sold in the targeted foreign
market. At the end of the period, unsold goods return to your Finished Goods Inventory. You will not be
able to sell, on any given Export market, more than you have set aside for this market.
The Price is a ‘delivered’ quotation. The exporter therefore pays the full transaction costs; see Data
Sheet: D. Transaction Costs. They are paid cash and only on the quantity actually sold.
Commercial Effort includes the same elements as on your domestic market. Penetrating a new market,
where your firm is not known, takes a lot of effort. It may thus take some time before observing the
full impact of your Commercial Effort.
You have the possibility to export a specific Grade (or quality) to each Export market. To do so your
quality department must screen your finished goods inventory and select a batch of products meeting
the required grade: this will generate a cost. Screening is in general only advisable to increase quality:
products of higher quality are selected to target a specific market. This selection process decreases the
average quality grade of your remaining inventory. But the reverse decision does not have the same

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effect: exporting goods stamped with a lower quality than the one from your inventory does not affect
the remaining inventory grade.
Screening is a limited process which should be used cautiously and marginally. If you do not select and
enter a specific grade, exported products are stamped with your average quality; in that case, just leave
“0” in the Grade box.

2.3 Finance
For any given period, outflows should not exceed the amount of funds available during that period. If,
for any reason, outflows are greater than inflows, the bank will automatically provide the necessary
funds for one period through costly overdraft.
To avoid overdraft, two types of financing are available.

a) Medium-term Loans
Such loans depend on the company’s situation (financial structure, solvency, profitability). As long as
your financial leverage is lower than 1.5, you benefit from an automatic line of credit (see Data Sheet:
E. Finance). Each quarter, your borrowing capacity for the next quarter is published in “Competitive
Info.” Unless negotiated with the banker, a new loan cannot exceed this capacity.
Loans have a 4-period maturity. A loan requested in period t is available that same period. It will then
be repaid in four equal installments in t+1, t+2, t+3 and t+4.

b) Equity increase
A firm may also obtain additional funds through an increase in its Equity Capital by issuing new shares.
To issue new shares, you first have to contact an Investment banker, the administrator. He will appraise
your situation and provide you with an estimate of a realistic issuing price and the number of shares that
can be sold at that price. If you agree with those parameters, the investment bank will underwrite the
issue and you are then sure to raise the requested capital.
The share issue takes place during the quarter you get the investment banker’s approval. The proceeds
(equal to the number of new shares multiplied by the share price) are credited to the firm’s bank account
that same quarter.
A flat fee equal to 4% of the total amount raised rewards the investment banker’s underwriting. It is
automatically deducted from the Cash balance during the same period.

2.4 New Business Exploration


New business exploration projects allow you to create new business opportunities unrelated to your
current core activity.
Exploration is a ‘stochastic’ process. You need to invest consistently over time to achieve success, but
the uncertain nature of the exploration process makes it impossible to anticipate when you will reap
profits from the new businesses.
Each period, a Project Committee will review the progress of your exploration efforts and will rate the
chances of success of each project. Once you have reached a 75% rating, the company Board will
consider that this new business is viable and will thus allow you to allocate funds to its development.
The project then moves from the “exploration” phase to the “business building” phase and, provided
you invest enough, may start generating returns.

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NegoSim offers three different types of Exploration Projects. The amount to be invested over time in
an Exploration project varies with the type of exploration; amounts indicated hereafter correspond to
past experiences1:

 Type 1: You develop a new business which is outside of your core activities but which does not
require drastically new technologies. The R&D effort is therefore moderate and cumulative
investments needed for the project to start paying off are in the range of €200,000 to €500,000,
spread over two to four periods.

 Type 2: This type of project is of greater magnitude and requires hiring high-skilled researchers,
developing new technologies and investing in new facilities. Because of this, required
investments range from €400,000 to €900,000 and must be spread over two to four periods.

 Type 3: These projects are aimed at radical innovation and involve developing an entirely new
business model and accessing radically new resources. Exploring such innovative avenues
requires investing €700,000 to €1,500,000 over two to four periods.
Type 1 and type 3 exploration projects must be undertaken through a strategic alliance with another
company, which allows you to share the exploration investment burden, while type 2 projects can be
launched autonomously.
When investing alone in type 2 projects, just enter the amount you wish to invest in your decision
sheet; NegoSim allows for only one type 2 exploration project to be undertaken alone by each firm.
If you decide to start an exploration project through a strategic alliance, you have to specify the project
details in a specific “Strategic Alliance” Contract, see 3.4. In such a case, paying for the investment is
dealt with by the strategic alliance contract: do NOT enter the amount you invest in your decision sheet.
Investments in Exploration projects are depreciated over eight quarters (two years).

2.5 New Business Building


Once an Exploration project achieves a 75% rating, it is considered successful, and a ‘Strategic Niche’
opens up. The business building phase begins: you are supposed to invest in order to develop the new
business you have created (a new row appears in the decision sheet). A report then tells you how much
you are expected to invest over the next two periods to achieve significant returns2. Obviously, the time
frame differs depending on the degree of innovation embedded in your new business: development of
the business is slower for a type 3 Strategic Niche (based on a radical innovation) than for a type 2 or for
a type 1 project. Also, the chances of achieving very high profitability are much greater with more
innovative businesses.
Once a Niche opens up, all sponsoring companies own a license to operate in the new business.
Therefore, they independently decide on the amounts they wish to invest to develop the niche. Former
strategic alliance partners become “co-opetitors”.
Expect to invest between €450,000 and €1,300,000 of your own funds to nurture the Niche, depending
on its type. Investments in Strategic niches are depreciated over 2 years (8 quarters).

1 One should remember that exploration is an expensive and hazardous activity. The investment ranges mentioned
above are indicative: they correspond to standard situations; firms may meet success with smaller or larger
amounts. Keep in mind that consistency and persistence are as important as the amount spent.
2 The same caution as for exploration activities holds regarding your investment in a new business.

The amounts are just an indication of the average magnitude of the new business investment, and should not be
considered as either mandatory, or as a maximum.
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You will not be able to open more than 3 Strategic Niches, whatever their type; so choose them
carefully.

3 - Contracting
Within the normal activity of your company, you may negotiate different types of contracts with other
firms: Raw Materials and Finished Goods contracts, Production Joint Ventures and Exploration Alliances.
All contracts are binding: resources needed for contracts, whatever they may be (raw materials, finished
products, financial resources, etc…), will be assigned in priority to the fulfillment of your contractual
commitments. If sufficient quantities of resources are not available, contracts will be automatically
fulfilled through emergency ‘Spot purchases’ or through loans.
The structure of the contracts is specified in the “Contract” tab under “New Contracts”.

3.1 Procurement Contracts


Raw Materials Contracts specify who the trading partners are, who is selling and delivering to whom,
the size of the order (number of units), the unit price charged and the contract duration, one or two
periods at most.
Raw materials bought through contracts end up in the same inventory as those purchased directly on
the world market. They are valued at their unit purchasing price.
Contracts also specify the percentage paid for cash, the remainder, which is found in ’Payables’, being
paid for during the following period, and the split of the transaction costs between the two firms (0 to
100%). Transaction costs are given in Data Sheet: D. Transaction Costs.
Transaction costs charged to the seller are computed on the delivered quantity and paid for cash.
Transaction costs charged to the buyer are included in the cost per unit and are paid according to the
negotiated payment schedule.

3.2 Finished Goods Contracts


Finished Goods Contracts specify who the trading partners are, who is selling and delivering to whom,
the number of units sold, the unit price and the contract duration, one or two periods at most.
Finished products bought through contracts end up in the same finished goods inventory as those which
have been produced by the firm itself. They all get mixed together.
Contracts also specify the product grade. The inventory final grade depends on the grade of the products
you buy. Purchasing products of lower quality decreases your finished goods inventory quality. The
reverse applies if you purchase products of higher quality. The resulting quality grade is the weighted
average of the quality of the products entering your inventory.
The quality specified in a Finished Goods Contract is binding: the quality grade which has been agreed
upon will be delivered, whatever the average quality of the seller’s inventory. To achieve this agreed
upon grade and fulfill the contract, the seller’s quality department may have to screen its finished goods
inventory. This task is very costly and the screening process affects the remaining inventory grade (see
2.2 Marketing, Export Market).
Finally it the contract specifies the percentage paid for cash, the remainder, which is found in ’Payables’,
being paid for during the following period, and the split of the transaction costs between the two firms
(0 to 100%). The impact (in % of the value of the goods) of these costs is given in Data Sheet: D.
Transaction Costs. The share of costs charged to the seller is paid for cash during each period on the

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quantity delivered. Transaction costs charged to the buyer are included in the cost per unit, and are paid
for according to the negotiated payment schedule.
Numerous finished goods contracts may be signed, whether with one or with multiple different firms.

3.3 Production Joint Ventures


Two firms may create a Production Joint Venture which is necessarily located in the country of one of
the two partners.
The JV is a separate firm, whose accounts are not consolidated with those of the two partners. In each
period, the JV’s output is redistributed between the two partners at the production cost. For more
information, see Data Sheet: G. Production Joint Ventures.

3.4 Exploration Alliances


Two firms may join efforts in an Exploration project through a Strategic Alliance Contract. In case of
success, each of them will benefit from the new business they developed.
When two companies decide to set up such an alliance, they must agree on the type of Exploration
project, the total amount they want to invest in each period and the contribution of each company to
the investment.
Partners may decide at any point to modify the terms of the alliance; they may change the amount
invested and the contribution of each firm, but not the type of alliance.
Once a Strategic niche opens up the Exploration Alliance Contract automatically ends. The partners can
also close the alliance by reducing the amount invested to zero.

4 - The main Yardstick


On the first screen, “Recap” you will find the Market to Book ratio of each firm, along with its Sales and
Net profit. This is the ratio of the Market value of the firm to its Book value; i.e.: the ratio of the firm’s
market capitalization to its Shareholders’ Equity. This ratio is indicative of the premium market investors
are willing to pay above the amount of funds invested by the firms’ shareholders. It synthesizes the
market’s appreciation of the firm’s performance. It is affected by the firm’s actual performance but also
by the firm’s strategy and future growth opportunities.
This ratio is of major importance for the firm’s management. First, in terms of financing: the higher the
Market to Book ratio, the more funds can you raise through issuing new equity. Also, it can be seen as a
judgement by the financial market on the firm’s strategy and competitive position.
At the beginning, all firms have a Market to Book equal to 1.9. One piece of advice: keep your Market
to Book as high as possible…

5 - Results
Each quarter participants are provided with their firm’s Financial Statements, a Production and Sales
Report and some Information on competition.

5.1 Production Report


a) Raw materials
Raw materials left over from prior periods – and therefore included in the initial inventory of the period
– or purchased on the world market, through contracts and from spot purchases, are all combined
together and a unit Weighted Average Cost per unit (WAC) is computed.

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All raw materials, whether sold through contracts, used for your own production or provided to the JVs
you are managing are valued at this Weighted Average Cost.

b) Manufacturing Statement
Each quarter this statement provides you with the number of units of finished goods you produced in
your own plants and the details of your production cost.
It thus includes Raw Materials Cost, Labour Cost and Depreciation Cost. All costs vary depending on the
technology used; see Data Sheet: B. Production. Labour cost also depends on the Labour cost Index of
each country; see Data Sheet: C. Market Characteristics.
The Quality Effort is the amount you have decided to spend on improving quality. You find in Data Sheet:
B. Production, the amount to be spent for each technology to obtain products of grade 2. If you compare
this per unit amount to the one spent by your firm in Quarter 0 to reach the quality achieved during that
quarter, you will have an idea of the relationship between the Quality Effort and the resulting grade.

5.2 Sales Report


Finished goods present in the period’s initial inventory, or acquired through contracts and spot
purchases, from your own production and from the production of Joint Ventures, are combined together
and a Weighted Average Cost per unit (WAC) is computed. The Weighted Average Grade is computed
in the same manner: Finished products from different origins mix together in the same inventory
resulting in a weighted average grade.

5.3 Competitive Info


This table presents an example of the information provided to you on all competitors and allowing you
to benchmark your decisions.

Germany Japan Malaysia Portugal USA


108,000 131,000 32,000 35,500 245,000
Market size
PRICES
Firm 1 Germany 74 - 52 - 79
Firm 2 Germany 76 - - 62 84
Firm 3 Japan - 78 - - 80
Firm 4 Malaysia - - 50 - -
Firm 5 Portugal - - - 65 74
Firm 6 USA 74 76 - - 86
Other Local Competitors
Average local firms’ price 74 77 57 61 81
Total market share (%) 82.1 92.2 78.3 67.8 82.7

Market size
This is the total amount of units for which there was demand during the period, in each market.

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Prices
The second part of the ‘Competitive Info’ Table lists the prices posted by each participating firm on the
different markets. The columns provide the prices on each market, in alphabetical order.
In the above example, the first column reports the prices charged on the German market. Firm 1 sells
at a price of €74. The other German firm, firm 2, sells at a price of €76. Firm 6 from the US also sells on
the German market, at a price of €74.
In the second column we find the prices charged on the Japanese market: €78 by firm 3 from Japan and
€76 by firm 6 from the US, and so on and so forth for other columns.
By reading the price in the rows we can know all prices posted by a specific firm on its different markets.
Firm 1 is selling on its domestic market at a price of €74; it exports to Malaysia at a price of €52, and to
the US at €79. Firm 1 decided not to export to Japan and Malaysia.
Other local competitors
On each market, participating firms meet competition from other (non-participating) local firms,
automatically generated within NegoSim. The number of those firms is given in Data Sheet: C. Market
Characteristics. For Germany, the Data Sheet indicates 12 firms including the two participating firms,
firm 1 and 2. The table indicates the average price posted by the ten other German firms, €74, and their
total market share in units: 82.1%.

BENCHMARKS
In this part of the table, you can find information about the firms competing on each market.
Average Production Cost
It is computed as the average cost of production of all firms producing in the country; it is based on their
own production only (excluding products bought through contracts and JVs).
Average Quality
It is computed as the average quality of all products sold in the country.
Average Commercial effort/Sales (%)
For each firm, this percentage is the ratio of local Commercial Effort to total local Sales. The benchmark
is the average of the individual ratios of all firms selling on the market, weighted by their local sales (in
euros).

INFO ON YOUR FIRM


Here you have information on your firm, to be compared to the above Benchmarks.
Production cost
It is your production cost during the period (and not your Weighted Average Cost, which includes units
obtained from contracts, JVs…).
Quality
It is the Weighted Average Quality of your products (coming from initial inventory, contracts, production
and JVs).
Commercial effort/Sales (%)
This is the ratio of your Commercial Effort (in euros) over your Sales (euros) in each of the markets during
the period.
Market share (%)
It is the ratio of your sales (in number of units) on each market divided by the market size.
Non contract sales

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Those are your direct sales on each market, in units.

5.4 Other Information


a) Project Committee rating
For each Exploration project, the Project Committee provides two kinds of information:
‘Investment effort’ compares your investment effort with the amount required to stand a good chance
of a niche opening up in three quarters.
 ‘Insufficient’ means that given your present level of investment, meeting with success might
take a lot of time…
 ‘Correct’ means that you are on a normal path. Success is not guaranteed, but the size of your
quarterly investment is adequate.
 ‘Excessive’ means that you are over-investing: you are trying to go too fast and your investment
has become somewhat inefficient.
‘Chances of Success’ tells you how far you are from the 75 % level which makes it possible for you to
open a new Niche. ‘Chances of Success’ indicates the level of accomplishment of your project.
b) Strategic Niche
Once a niche opens up (in other words when the Project Committee gives it a 75% rating) your company
may invest in it. You will receive additional information on how to proceed.
The ‘Other information’ table will then display your Return on Investment (ROI) on the Niche, that is,
the return you got during the quarter.

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Appendix 1: DATA SHEET


A. Procurement
Raw materials can be bought on the world market. Discounts may be obtained when 120,000 units or
more are ordered for a given period.

Unit base price for orders below 120,000 Units € 1.0 per unit
Spot purchase price € 1.2 per unit
DISCOUNT FOR LARGE ORDERS
120,000 < Order < 200,000 € 0.90 per unit
200,000 < Order < 300,000 € 0.85 per unit
300,000 < Order < 400,000 € 0.80 per unit
Order > 400,000 € 0.75 per unit
B. Production
The two available technologies A and B differ mainly in terms of capacity and capital intensity.
For any given country, labor cost is obtained by multiplying the labour cost for the chosen technology
by the country’s labour cost Index provided in Data Sheet: C. Markets Characteristics.
Plants are depreciated over 10 years (40 quarters) with straight-line depreciation.

PLANT DATA (PER PLANT)

Plant “A” Plant “B”


Optimal capacity (units) 1,000 5,000
Maximum capacity (units) 1,200 6,000
Investment ( €) 200,000 1,400,000
The cost structure for an optimal level of production, in a country with a 100 labor cost Index,
a quality grade of 2, and a unit cost of Raw Materials equal to €1is as follows:

Production 1,000 5,000


Raw materials (€) 10,000 35,000
Labour cost (€) 32,500 125,000
Plant depreciation (€) 5,000 35,000
Quality Effort (€) 2,500 20,000
Total Cost (€) 50,000 215,000
Unit Production Cost 50 43
C. Market Characteristics
Germany Japan Malaysia Portugal USA
Size (000’s of units) 100 130 30 35 250
Labour cost Index 100 95 60 75 110
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Total Number of
domestic firms 12 15 10 10 15

Quality 3.2 3.0 1.6 1.9 3.6

Quality corresponds to the quality index of a typical product sold in the country. The quality ranges from
1 for the lowest quality to 5 for the highest quality.

Germany Japan Malaysia Portugal USA


Price Sensitivity medium high very high low high
Sensitivity to Quality high very high low medium high
Sensitivity to
Commercial Effort high high medium medium very high

D. Transaction Costs
Transaction costs exist for all inter-company and/or inter-country operations. They are a fixed
percentage of the total sales amount. The percentages listed below are therefore applied to the total
revenue generated by a contract or by direct sales on a foreign market.

Germany Japan Malaysia Portugal USA


Germany 1% 4% 4% 2% 3%
Japan 4% 1% 2% 4% 3%
Malaysia 4% 2% 1% 4% 3%
Portugal 2% 4% 4% 1% 3%
USA 3% 3% 3% 3% 1%

E. Finance
 Initial Loan
In period 0, the only debt you have is an loan in perpetuity: it will eventually be refunded in the distant
future; each quarter you only pay interest expenses.

 New Loans
The different loans bear an interest which depends on the Prime rate. This Prime rate (yearly rate) is
given each period along with economic forecasts.

• Overdraft
Overdraft interest rate (yearly) Four times the prime rate
• Medium-term loans
Four-quarter loans are granted without negotiation with the administrator as long as the firm’s debt
ratio or financial Leverage (L) does not exceed the limit of 1.5.
This Leverage is computed as follows: L = Total Financial Debt / Total Equity
Total Financial Debt: total outstanding debt (Medium-term loans + Overdraft) plus the Medium-term
loans being requested.
Total Equity: Equity Capital + Retained Earnings + Income from period.
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Value of the financial debt ratio Interest rate charged (yearly rate)
Leverage < 1 Prime rate + 2%
Leverage < 1.5 Prime rate + 4%
Leverage > 1.5 Negotiation with administrator
Interest charges are computed on the loan balance at the beginning of the period.
If, for example, you ask for a €40,000 loan in period 2, this amount will be available in period 2. You will
reimburse €10,000 in periods 3, 4, 5 and 6. Period 3 interest expenses are computed on the basis of
€40,000 and appear in the period 3 Income Statement. Period 4 interest expenses will be computed on
the loan balance at the beginning of that period, namely €30,000, and are paid in period 4.
Each quarter a Borrowing capacity for T+1 is provided to you. This is the maximum amount your firm
may borrow during the next quarter without negotiating with the bank; it is computed as the loan
which would bring your financial leverage up to the limit of 1.5.  Capital increase
New equity issues require the agreement of an investment banker on the number of new shares and the
share price; expect to offer a 10% to 20% discount on the current share price to new shareholders as a
sweetener.

Germany Japan Malaysia Portugal USA


Outstanding Shares 27,449 20,018 14,485 14,037 54,044
Share Nominal Value (€) 16 26 14 23 24

F. Other data
 Administrative costs
They vary from one country to the other: in period 0, the ratio ‘Administrative costs to Sales’ ranged
from 8 to 12%. Administrative costs grow with the size of the company, i.e. its sales and production
levels. They include administrative buildings depreciation; they do not include plant depreciation which
is part of the Production cost.
The managing firm’s administrative expenses are also impacted by its JVs production level. 
Payment schedules
When purchasing raw materials, part is paid immediately, the remaining being paid in the subsequent
quarter. That amount to be paid later part is found in “Payables” in the balance sheet. Likewise, sales
are partly paid cash and partly with a one quarter lag. That deferred part is found in “Receivables”.
The ratio between cash and deferred payment is the same on all markets: 60% of all sales and purchases
are paid for cash. In the case of contracts, you may negotiate any payment schedule you wish with your
partner.

 Tax rate
For the sake of simplicity we assume a single tax rate of 32% in all countries. Taxes are paid during each
period on the basis of current earnings. If, during a fiscal year, a firm has had quarters with profits and
others with losses, there could be a refund of excess taxes paid. This ‘tax refund’ will appear at the end
of the fiscal year (the 4th quarter of the year).

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G. Production Joint Ventures


A Production Joint Venture is necessarily located in the country of one of the two partners. The partner
whose country the JV is located in is declared the JV’s Managing partner.
Partners have to specify the number of plants they operate, their type and the product grade they
produce. The amount of Quality Effort needed to reach the agreed-upon quality will be automatically
computed. Thus JV-produced goods always have the agreed-upon grade.
Partners also specify the financial contribution of each partner to the plant investment and the split of
the JV’s output between the 2 partners. Each period, the JV’s output is then allocated to the two
partners, each partner paying the products it receives from the JV cash at the JV’s production cost. The
amount invested by each partner appears in its Balance Sheet for its net book value, under ‘Investment
in JV’s’. This investment is depreciated linearly over 10 years, i.e. 40 quarters.
The contract also specifies management fees to be paid each quarter to the Managing firm by its partner.
This management fee is a percentage of the JV’s total production cost. Observed practices show fees
ranging from 3% to 6%.
One of the tasks of the managing firm is to provide the necessary raw materials to the Production JV;
thus, managing firms should not forget to take them into account when ordering raw materials. If they
do not have enough raw materials, missing quantities will be automatically bought at a higher spot price.
The managing firm then sells Raw materials at its average inventory unit cost and receives the proceeds
in cash in the same quarter.
Once the agreement is signed, a JV is a transparent company. The JV buys the number of plants the
partners have agreed-upon, which are always operated at optimal capacity (1,000 or 5,000 depending
on the technology), never below nor above.
Of course, you may modify a JV contract as long as the contract is active; this is done through the update
procedure of the contract menu. Not all terms are subject to change: you may modify the number of
plants, the product quality and the share of output of each partner, but not the technology or the
distribution of investment between the partners. Any change calls for both partners signing the
amended agreement. In case of agreement, the new conditions hold from the period of signature. If one
of the partners does not sign the updated contract, former conditions prevail until the JV is shut down.
You may shut down a JV if the two partners agree to do so. This is done through the update procedure:
one of the partners just needs to enter a termination period number for the JV. If the other partner
agrees to terminate the JV, and thus signs this update, the JV shuts down at the end of the specified
period. This implies that the JV will still be active during the period when the shut-down is decided; the
JV is sold at the end of the period. A JV is a separate company: closing a JV will not generate dismissal
compensation. When a JV is shut down, the assets of the JV are sold for their Book value minus a
discount; this discount decreases as the JV gets older. The proceeds are returned to each partner in
proportion with their initial investment in the JV.

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Appendix 2: Market to Book Ratio


As previously mentioned, the Market to Book ratio (M/B) will be the main yardstick of your firm’s
performance.
This ratio appears on the first screen along with each firm’s Sales and Net Income. At first, all firms have
a Market to Book ratio equal to 1.9.
The M/B ratio compares the firm’s Market value to its Book value. It is the ratio of the firm’s market
capitalization –number of outstanding shares times share price– to its Shareholders’ Equity. This ratio
indicates the premium investors are ready to pay over the amount of funds originally invested by the
firms’ shareholders. It synthesizes the financial markets’ appreciation of your firm.
The Market to Book ratio is affected by your firm’s actual performance but also by your strategy and the
future growth opportunities you create. All the factors contributing to your firm’s Profitable Growth
thus impact the financial markets’ perceptions favorably. Those Value Drivers include, among others,
sales growth, Net Income and ROA (Return on Asset defined as Net Income over Total Assets), your
competitive cost position, your capacity at generating demand in line with your production, how global
you are, but also how much income you generate from new businesses, etc. In other words, your M/B
is impacted not only by your results, but also by the future prospects of your firm.
The M/B ratio is of major importance for the firm’s management. First, in terms of financing: the higher
the Market to Book ratio, the more funds can you raise through new equity issues. Do not expect to be
able to convince new investors to participate in any equity increase if your M/B ratio is not greater than
2.5.
Also, your M/B ratio can be seen as a feedback from the financial markets on your firm’s competitive
position.
One piece of advice: keep your Market to Book ratio as high as possible…
…and good luck.

NegoSim September 2019