Fund - House Case Study #1 - An Investment Conundrum

Every so-often I will be presenting a management problem taken from a real-life situation I was personally involved with. This first F-H Case Study, entitled "An Investment Conundrum", centers around an investment problem that on its face appears to have no easy, if any, solution.

Rio

The Background:

Banco del Rio is a Brazilian Merchant Bank that is managed by Rinaldo Bosa, who is CEO and Chairman and who also owns 25% of the Bank.  BR is capitalized at $400 million with each of three other partners owning 25% of BR. These investors consist of a large U.S. multinational bank (American Wealth), a Japanese merchant bank (Edo Trust), and a Swiss investment company (Geneve Partners). 

Banco del Rio is five years old. Since inception it has made little profit and the return on investment has been negligible. However, Bosa believes that if BR were capitalized at a higher level he would be able to fund better and more lucrative projects in both Rio and Sao Paulo.  To this end, Bosa contacted the three other owners of BR requesting that each invest an additional $100 million; thereby, capitalizing BR at $800 million.

Bosa further stated that he was putting up a building located in the financial district of Rio, and appraised at $100 million, as his share of the additional capitalization. Each of the partners were told they had 60 days in which to decide if they were going to make their additional $100 million  investment. Any shortfalls through non-participation would be offered to the remaining investors.

The Conundrum:

Within 30 days, both Edo Trust and Geneve Partners had notified all parties that they were going to participate and would be investing an additional $100 million each in Banco del Rio.  American Wealth, had decided that an additional $100 million investment in Banco del Rio was not prudent and would not be made. 

The team working on this project at American Wealth consisted of the EVP and Head of the International Department, the SVP of Latin American Banking, and myself, VP of International Finance and Operations. Our consensus was that the primary reason for American Wealth's initial investment in BR was to gain more access to Brazilian corporations by using BR as a networking conduit for our Rio-based business development and lending staff - which it did. However, given BR's lackluster performance ponying-up another $100 million was not going to happen. 

The conundrum was that if American Wealth did not make the investment its original $100 million would now be diluted - as the original 25% ownership would now be only 12.5% which would trigger a 50% or $50 million write-down of the International Department's earnings - and time was running out! 

What To Do? 

Obviously, the Head of American Wealth's International Department, was not going to accept a $50 million hit and so it was necessary to come up with a solution to this problem and fast. 

Tomorrow I will present the outcome of this case. In the meantime think about the issues presented and try to come to a conclusion.  Did in fact American take the $50 million write-down? And make up for it by making more loans. Did American pony-up the additional $100 million investment? And justify it by increasing business in Latin America generally. Was there no viable solution which would satisfy all parties concerned?