Question #2- you have to read the case before! Thank you so much!!!

6. Case Study: The 1993 Bankers 'Irust Proposal for Privatizing Rhone-Poulenc Here's a real example of how a bank you've probably never heard of used the reasoning we've outlined to this point to help the French government privatize a large chemical com pany. It was hoped that this deal would also contribute to the development of the public stock market in France by encouraging employees to buy and hold shares in the company. Try using the nancial engineering spreadsheet to address the assignment questions. Background In 1993 a new conservative government in France enacted legislation authorizing the pri- 17 FINANCIAL ENGINEERING NOTES vatization of 21 large state-owned companies. Rhone-Poulenc was ance's largest chemical company and the seventh largest worldwide. Its recent strong nancial performance led to the rm being identied as one of the agships for the government's privatization effort. Al- though Rhone-Poulenc was owned by the state, two of its subsidiaries were listed on major stock exchanges: Rhone-Poulenc Rorer traded on the NYSE and Institut Merieux traded on the Paris Bourse. The privatization eort began in January 1993 with a partial (20%) liquidation of the state's holdings. A primary goal in the privatization of Rhone-Poulenc, as in many priva- tizations worldwide, was to promote share ownership among employees. The rationale was twofold. First, employee ownership was a means of giving individuals stakes in the compa- nies being privatized. It was hoped that this would, in turn, promote further development of the capital markets. (Traditionally, public capital markets were relatively underdeveloped in most European countries because of the dominant role of large universal banks). Secondly, it was hoped that employee share ownership would promote efciency in the privatized rms by more nearly aligning the interests of workers with shareholders. The initial sale set aside 10% of the shares on offer for employees. Employees were provided the opportunity to purchase shares at a discount of 25% from the oer price and to make payments in 12 monthly installments on the condition that they hold the shares for at least two years. Fewer than 20% of the employees exercised this option and only 75% of the employee set aside was sold. The Bench government hoped for a much better outcome from the second round of pri- vatization scheduled for July 1993. With this in mind, government representatives met with representatives from the London ofce of Bankers Trust. During the last decade, Bankers Trust had gained a reputation for being among the world's most innovative banks and was widely regarded as among the top several banks in derivatives and risk-management exper- tise. FINANCIAL ENGINEERING NOTES 150Ffr per share; 0 For each share purchased with the employee's own funds1 a French bank would lend them su'icient funds to purchase 9 additional shares (up to 500 shares total); 0 Employees would then place all 10 shares in the bank's custody as collateral for the loan; 0 Employees would be prohibited from selling the shares for 4.5 years except under unusual circumstances; 0 The loan could be repaid at the end of 4.5 years either from the employee's pocket or through sale of the shares; a Bankers Trust would guarantee employees a minimum of 1.25 times the money employ- ees put up to purchase the shares (both their own money and any borrowed money); a In exchange for this guarantee1 Bankers Trust would take 1/3 of any price appreciation at the end of 4.5 years over the public offer price of 150Ffr per share. Assignment 1. Draw the payo' diagrams facing both employees and Bankers Trust at the end of 4.5 years. 2. Use the Black-Scholes model to determine the conditions under which the terms proposed by Bankers Trust seem reasonable. In other words1 under what conditions is the Bankers Trust guarantee theoretically fairly priced? (Assume a risk free rate of interest of 6.5% per annum over the 4.5 year period) 3. Bankers Trust is shouldering risk under this proposal. Given your results from (2); determine their initial risk exposure per share of stock for which they provide a guarantee. 4. Keeping in mind that the market for the new Rhone-Poulenc shares will be in its infancy; suggest a strategy for Bankers Trust to hedge the risk they have taken on