Arm's Length Payments for IP Involved in The Transfer of Amazon's EU Website Business Final Report Daniel J. Frisch, Ph. D. Horst Frisch Incorporated January 14, 2011 Table of Contents I. Executive Summary ...................................................................................... 1 Objective of This Report ............................................................................ 1 Summary of Analysis and Conclusions ..................................................... 2 II. Facts ............................................................................................................. 4 A. Amazon's History and Business ................................................................ 4 B. History of Amazon's EU Website Business ............................................... 7 C. Amazon Entities Before and After Restructuring ..................................... 10 1. Amazon Entities Prior to Restructuring .......................................... 11 2. Amazon European Entities After Restructuring ................................ 13 D. Intercompany Agreements ...................................................................... 15 1. Cost Sharing Agreement .................................................. , ......... 15 2. License Agreement. .................................................................. 16 3. Assignment Agreement .............................................................. 17 E. IP Transferred to AEHT ........................................................................... 18 Ill. Arm's Length Standard and Transfer Pricing Methods ................................ 22 A. Section 482 Regulations and Arm's Length Standard ............................. 22 B. Cost-Sharing Arrangements and Transfers of IP ..................................... 23 C. Transfer Pricing Methods for Intangible Property .................................... 24 1. Comparable Uncontrolled Transaction Method ................................ 24 2. Comparable Profits Method ......................................................... 25 3. Profrt Split Methods ................................................................... 26 4. Unspecified Methods ................................................................. 27 D. Summary ................................................................................................. 28 IV. Summary and Critique of Deloitte Report ........ :........................................... 28 A. Summary of Deloitte Report .................................................................... 29 B. Critique of Deloitte Report ....................................................................... 34 C. Implications ofthe Deloitte Report's Method ........................................... 44 V. Analysis of Best Method .............................................................................. 48 A. The CUT Method ..................................................................................... 48 B. Profit Split Methods ................................................................................. 49 C. Comparable Profits Method ..................................................................... 50 D. Conclusion on Applicability of Methods ................................................... 50 VI. Valuation Using Discounted Cash Flow ...................................................... 51 A. Discounted Cash Flow {DCF) .................................................................. 51 B. DCF For One Period Cash Flow .............................................................. 52 C. Internal Rate of Return ............................................................................ 54 D. DCF For More Than One Period ............................................................. 54 E. Using DCF to Value Existing Assets ........................................................ 56 F. Pre-Tax Cash Flows ................................................................................ 60 G. Using DCF to Value Existing Intangible Assets ....................................... 61 VII. Application of DCF to IP Involved in Transfer of EU Website Business ...... 62 A. Cash Flows .............................................................................................. 63 1. Profit Forecasts ........................................................................ 63 A. B. 2. Cash Adjustments .....................................................................65 3. Growth Rate ............................................................................ 66 B. Discount Rate .......................................................................................... 68 C. Estimated Intangible Value ...................................................................... 69 VIII. Tests of Reasonableness ............................................................................ 70 A. CUT Method Using Merchants@ ............................................................. 70 1. Deloitte February 1, 2006 Memo .................................................. 71 2. Merchants@ Analysis ................................................................ 73 B. Market Value Analysis ............................................................................. 76 IX. Conclusion .................................................................................................. 79 Tables and Apoendices Table 1 Table2 Table 3 Table 4 Table4a Table 5 Table 6 Table 7 Luxembourg/AEHT Actual and Forecasted Plls Implied Return on AEHT's Investment in Intangibles Summary of Deloitte Report Discounted Cash Flow Accrual to Cash Basis Income Statement Cost of Capital Estimate Intangible Value Implied by Merchants@ Commission Rates Market Value Analysis Appendix A Appendix B Appendix C AppendixD Appendix E Cash Adjustments Estimates Terminal Year Growth Rate Estimate Cash Flow Timing Estimate Merchants@ Program Summary Merchants@ Analysis ii I. Executive Summary A. Objective of This Report Certain US and foreign subsidiaries of Amazon.com, Inc. ("ACI")1 entered into a series of three agreements with effective dates of January 1, 2005. The parties were two US entities, Amazon Technologies, Inc. ("AT") and A9.com, Inc. ("A9"), and one Luxembourg entity, Amazon Europe Holding Technologies SCS ("AEHr). The agreements were ( 1) "Amended and Restated Agreement to Share Costs and Risks of Intangible Development (the "Cost Sharing Agreement"), (2) "License Agreement for Preexisting Intellectual Property" (the "License Agreement"), and (3) "Assignment Agreement for Preexisting Intellectual Property" (the "Assignment Agreement"). 2 The entities and agreements are described in more detail below. The effect of the agreements was to transfer the operation of Amazon's "EU Website Business" to AEHT beginning on the "Business Transfer Date," and to provide for the sharing of the costs of continuing intangible development. 3 In particular, the License and Assignment Agreements transferred the intangible property ("IP") necessary to operate the EU Website Business to AEHT. In September 2006, Deloitte Tax LLP prepared "Amazon.com, Inc., Transfer Pricing Documentation Report" (the "Deloitte Report"). This report computed a series of 1 In this report, I use "Act• to refer to the parent corporation and "Amazon" to refer to the worldwide group of companies made up of ACI and its subsidiaries. 2 AT and AEHT were parties to all three agreements; A9 was a party to only the Cost Sharing Agreement. 3 Paragraph 1.6 in the Assignment Agreement states, "'EU Website Business' means the sale of products and services through the Web sites identified by the URLs: www.amazon.co.uk, www.amazon.de, and www.amazon.fr." Paragraph 1.3 of the Assignment Agreement states, "'Business Transfer Date' means the date to be mutually agreed upon by the parties, expected to occur during 2006, upon which the Luxembourg Operating Group commences operation of the EU Website Business." The date was eventually set as April 30, 2006. 1 payments which, in the opinion of Deloitte, constituted arm's length payments for the IP transferred to AEHT under the License and Assignment Agreements. 4 The purpose of the present report is twofold. First, I critique the Deloitte Report and discuss whether its analysis and conclusions are well-founded. 5 I find that they are not. Second, I present my own analysis of the transfer of the IP to AEHT. The objective of my analysis is to estimate the payment or payments that AEHT would have made had it and AT been independent parties operating at arm's length. I conclude that an arm's length party in AEHT's situation would have made a payment or payments for the IP transferred under the License and Assignment Agreements that would have equaled approximately $3.6 billion in present value. I am a Managing Director of Horst Frisch Incorporated and an economist who has advised companies and the IRS on transfer pricing matters and has testified as an expert witness on transfer pricing economics in US Tax Court.6 B. Summary of Analysis and Conclusions I have two main conclusions. First, in my opinion the analysis in the Deloitte Report contains a number of fundamental flaws. As a result of these flaws, Deloitte's conclusions regarding the payments made by AEHT in return for the transferred IP are unreasonably low. As I discuss in Section IV.C., the implications of Deloitte's analysis are 1) that over the first seven years of the intercompany agreement, AT would give up 4 Deloitte Report, page 5. I understand the taxpayer based its tax return filing position on the analysis in the Oeloitte Report. In addition to the Deloitte Report, in preparing this report I relied on data provided by the IRS, including information document request (lOR) responses, Amazon's section 6662(e) transfer ~ricing penalty documentation, and interviews with Amazon personnel. Oeloitte estimated the present value of the payments as of December 31, 2004 for the transferred IP to be $216.7 million. See Deloitte Report, Appendix 9. 6 I was assisted in the preparation of this report by my Horst Frisch Incorporated colleagues R. William Morgan, Richard A. Bruch, and Gregory Zartarian. 2 more than $9 in expected profit for every $1 it collected from AEHT as a payment for the IP; 2) AEHT would expect to receive an extremely high 128% rate of return on its IP payments to AT; and 3) AEHT would be allowed, under Deloitte's method, to retain an unreasonably large share of the expected profits arising from the EU Website Business. In my opinion, Deloitte's recommended payments for the IP transferred to AEHT by the License and Assignment Agreements are inconsistent with the arm's length standard. Second, I conclude that a reasonable estimate of the value of payments that would be in compliance with the arm's length standard is $3.6 billion. I reach this conclusion based on application of a discounted cash flow analysis, which is discussed in Sections VI and VII below. Discounted cash flow is a widely-accepted valuation technique which is often cited by Amazon's founder and CEO Jeff Bezos as an important financial measure for Amazon (see Section VI .A. below). I confirm the reasonableness of my conclusion with an application of a comparable uncontrolled transaction method using commissions paid to Amazon under a third party sales channel program, Merchants@. I also consider a market value method. These confirming methods are discussed in Section VIII. This report is organized as follows. Section II presents the facts, including a brief discussion of the entities involved, the European restructuring, the intercompany agreements, and the nature of the IP transferred to AEHT. Section Ill discusses generally the arm's length standard and transfer pricing methods. I critique the Deloitte Report in Section IV, and conclude that its recommendations do not achieve arm's length results. In Section V I discuss the applicability of the different regulatory methods for valuing intangible property, and conclude that a discounted cash flow approach is 3 the best method. That method is discussed in Section VI, which is a general discussion of the method, and Section VII, which applies the method under the facts of this case. conclude that a present value of $3.6 billion would be consistent with the arm's length standard. Section VIII describes two confirming methods- the comparable uncontrolled transaction method using data from Amazon's third party vendor program Merchants@, and a market value method. Section IX provides a brief summary. II. Facts A. Amazon's History and Business Amazon was founded by Jeff Bezos in Seattle, WAin 1994. It commenced operations during 1995 and went public during 1997? In 2004, Amazon was the world's largest global Internet retailer, with worldwide sales of $6.9 billion-three times as much as its closest competitor.8 An internationally recognized brand, Amazon had developed a global reputation for convenience, low prices and a wide array of product choices which earned it a loyal customer base. In 2004, 56 percent of all sales came from North American customers and the remaining 44 percent were from Amazon's international operations, located in the UK, Germany, France and Japan. 9 Amazon began as an online bookseller, but soon diversified its selection to offer products in a broad range of categories, including books, apparel, electronics and housewares. Media, which includes books, music, videos, DVOs, video games, software, and computer games, has consistently been the top-selling product line for Amazon, with electronics making up a large portion of the remainder. In 2004, 7 Amazon 2004 Form 10-K, page 3. Amazon 2004 Form 10-K, page 37. 9 1bid. 8 4 wortdwide sales of media products accounted for 74 percent of Amazon's total revenues, with electronics adding an additional 24 percent. 10 Amazon also facilitated the sale of millions of additional products through thirdparty vendors. Amazon's Marketplace and Merchants@ programs e-nabled third parties to sell their products on Amazon's websites. 11 Through these programs, visitors to Amazon's websites could shop for products owned by third parties using Amazon's features and technologies. Customers could also complete transactions that include multiple sellers (e.g., Amazon and one or more third-party vendors) in a single checkout process. Amazon Marketplace generally served sellers who were individuals and small businesses, while participants in the Merchants@ program were generally larger, branded businesses. These programs gave Amazon's customers access to an even wider selection of products and provided Amazon with an additional revenue stream through commissions and other types of fees paid by the third-party vendors. Through continuing investment in R&D and an appetite for innovation, Amazon developed proprietary software and technology features aimed at simplifying and improving the online shopping experience. Over the period 2002-2004, Amazon spent an average of 4.9 percent of total sales12. on "Technology and Content" expenses. 13 . Key features unique to Amazon's websites included editorial and customer reviews, 1Ciick technology, "Look Inside the Book" and gift-wrapping options. 14 These features 10 Ibid. Amazon 2004 Form 10.K, page 5. 12 Figure includes Technology and Content portion of stock--based compensation. Amazon.com 2004 Form 10.K, page 52. 13 Technology and Content expenses "consist principally of payroll and related expenses, including stockoption expenses, for employees involved in development of Amazon's websites, including application development, editorial content, merchandising selection: Amazon.com 2004 Form 10-K, page 61. 14 Form 1o-K, page 52 11 5 distinguished Amazon from its competitors and helped it to maintain its status as a market leader. Customer orders were fulfilled quickly and accurately through Amazon's effective supply-chain and distribution system. From the outset, Amazon's strategy was to hold modest inventories itself and rely primarily on wholesalers-to hold inventory. Inventory it did warehouse was stored in one of Amazon's strategically located distribution centers. 15 The use of specialized software programs and technology systems allowed Amazon to determine accurate time-frames for shipment, the most cost-effective delivery options and customer demand for different geographic regions and times of year. In addition to providing fast and accurate delivery services, Amazon's effective handling of inventory and short-term capital generated cash to help cover its operating expenses. Because of Amazon's use of wholesalers to stock most of its inventory, Amazon benefited from a high inventory turnover rate which, when coupled with upfront customer payment and third-party commissions, allowed Amazon to sell and deliver products before it had even paid for them. For example, over the period 2002 to 2004, Amazon had an average working-capital-to-sales ratio of -7.9 percent. 16 Other factors contributing to Amazon's success included the strength of the brand, lower prices, free shipping orders, breadth of selection, site features, ease of customer returns and third party listings. 17 15 Hammond, Janice. "Amazon.com's European Distribution Strategy." Harvard Business School, June 30, 2005, pages 9-11 and Exhibit 9. 16 See Table A-2. line 237, in Appendix A of this report. 17 Hammond, op. cit., page 16. 6 Although Amazon held a dominant market position in 2004, the industry in which Amazon. competed was constantly evolving and was very competitive. Online retailing became increasingly competitive in the late 1990s, particularly as established and wellknown offline wholesalers, such as Best Buy and Dell, entered the online market. 18 By 2004, the Amazon businesses in North America and in Europe faced competition from worldwide a-commerce sites such as eBay, traditional retailers with online sites such as Barnes and Noble and FNAC, and other indirect competitors such as comparisonshopping websites and internet search engines. As a result, Amazon experienced significant price competition and had to compete for its loyal customer base and brand recognition. B. History of Amazon's EU Website Business Amazon was able to penetrate the German and UK markets early on through the acquisition of leading online book retailers. By acquiring existing companies, Amazon partially avoided the time-consuming tasks of establishing relationships and building databases, allowing it to focus on expanding product selection and improving its supplychain and distribution systems. Specifically, in April 1998, Amazon acquired Telebuch.de in Germany and Bookpages.co.uk in the UK and re-launched both sites in October 1998 under the Amazon brands. During 1999, the first full year of operations, the combined sales of Amazon.co.uk and Amazon.de were approximately $167.7 million and accounted for approximately 10 percent of total Amazon revenues. 19 Upon experiencing rapid growth in sales in the German and UK markets, Amazon continued to expand in the European Union ("EU"} by entering the French 18 19 Friedland, Jim, "Amazon.com, w SG Cowen & Co. January 4, 2005. pages 15-16. Hammond, op. cit., pages 7-8. 7 market in September 2000. However, unlike for Germany and the UK, Amazon built its French site from scratch, requiring the establishment of distributor accounts and warehouses. Although the www.amazon.fr website faced strong European competition from FNAC, Bertelsmann and the European branch of Barnes and Noble, its creation helped Amazon to establish itself firmly in the international market. Amazon's sales in the EU grew rapidly. By 2004, Amazon's EU sales were $2.3 billion and accounted for one third of Amazon's worldwide revenues. 20 Amazon's EU operations included approximately four thousand employees in the UK, France and Germany in 2004. 21 These employees worked in sales offices in the major cities in these countries and in strategically located distribution centers. 22 In 2004, the European online retail industry as a whole was forecasted to grow at an increasingly fast pace, with a continuing focus on media-related products. As of the end of 2004, online retail sales within the largest Western European nations were forecasted to grow at an annual rate of 11 percent. 23 Chart 1 displays the Amazon EU Website Business's actual sales through 2004, together with Amazon's own forecasts of its European sales for 2005 through 2011. 24 20 lOR 1-43. Figures taken from data included in excel spreadsheet provided by Amazon in response to lOR E-13. 22 Hammond, op. cit., pages 9-11 and Exhibit 9. 23 Oeloitte Report, Appendix 4, page 1. 24 Sales figures from Table 1 used for Chart 1. 21 8 Chart 1 EU Website Business Historical and Projected Revenues . . 14,000.0 Business Transfer Date - - : =------~-----------·------..,...---1 12.000.0 10,000.0 8,000.0 i' I • 6,000.0 :I J 4.000.0 2,000.0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 v- In view of the large size and rapid growth of sales, it is clear that the Amazon EU Website Business was a successful operation by 2004. This success is reflected in the pattem of profits over time. Like many start-up situations, the Amazon EU Website Business recorded losses initially, then began to make profits. By 2004, Amazon's EU Website Business earned profits of $96.9 million. Further, Amazon forecasted significant growth in profits after 2004. Chart 2 below shows the cumulative operating profits of the EU Website Business for the years 1998 to 2011. 25 25 1998 to 2004 are actual data as provided in response to lOR 1-43. 2005 to 2011 are forecasted data as provided in Figure 7 from the Oeloitte Report. Operating profits are net of IDC payments. IDC payments for 1998-2004 assumed to be 2.9% of revenues, which is equal to the ratio of IOC payments to projected revenues in 2005. 9 Chart 2 Historical and Projected EU Website Business Cumulative Operating Profit 3,000.0 r------------------t------------, 2,500.0 1 - - - - - - - - - - - - - - - ___,I--- Busir.ss Transfer Da18 - - 2,000.0 -·-·--···-·--··--·--------------:--- 5' 11,500.0 II!' 1,000.0 1 I 500.0 (500.0) · ' - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - ' Year C. Amazon Entities Before and After Restructuring During 2004-2006, Am~on restructured the ownership, operation and management of its EU Website Business. The restructuring process was completed on the Business Transfer Date, April 30, 2006. To describe this process, I briefly describe the organizational structure of Amazon's legal entities involved in operating the EU Website Business before and after the restructuring. I then briefly describe the intercompany agreements that effectuated the restructuring. 10 1. Amazon Entities Prior to Restructuring The organizational structure of Amazon's EU operations before the reorganization is depicted in Chart 3. 26 Existing entities prior to the reorganization that are relevant to this report include: AT and A9: AT and A9 are wholly-owned US subsidiaries of ACI. They hold Amazon's worldwide intellectual property rights. AIS: AIS was a wholly-owned US subsidiary· of ACI. It operated the EU Website Retail Business. AIS sold retail products to English, German, and French speaking customers through the www.amazon.co.uk, www.amazon.de and www.amazon.fr websites. AIM: AIM was a wholly-owned US subsidiary of ACI. AIM operated the EU Website Services Business. This function involved offering the thirdparty merchant platform services within Europe. EU service affiliates: The EU service affiliates were six wholly-owned UK, German and French subsidiaries of AIS. The six entities are indicated in Chart 3. These subsidiaries provided customer service, marketing, and fulfillment functions for the benefit of AIS and AIM in their respective countries. They were compensated by AIS and AIM at various cost-plus markups. 26 Charts 3 and 4 are taken from Amazon's response to lOR 1-15. I have added the acronyms that I use throughout this report next to the relevant entities; these acronyms are circled and shown in red. 11 Existing Legal Entity Structure -1/1/2004 ~F? I 1~"'1 ~"':" I~ ~ I I~.. ..~.. I u.s. u.s. u.s. -~ "' I E ----+-l . . .~. . . . . h ~ I Spaills.I.. I r-• HoldiAp SAS .. ~I ~~* (.It~ @ hi"'l -=-.., I~~ u.s. u.s. A I~ AIDaoa.COIII Holditlp, .lao. INVScnicea,.lllc. (NV) u.s. ,~fi's.t Source: Amazon Response to lOR 1-15 ~* amazon.com· ~ 'OU're done:" 2 2. Amazon European Entities After Restructuring During 2004 and 2005, Amazon created a series of new entities in Luxembourg to operate the EU Website Business. The new structure is depicted in Chart 4: The restructuring involved the addition of the following entities: Amazon EU (AEU): AEU became the principal operating entity of the EU Website Business. It owns the data centers that support the operation of the EU websites; these data centers were moved to Europe as part of the reorganization. LuxOps: A number of entities besides AEU were organized in Luxembourg. They are shown in Chart 4. They operate the EU websites, hold inventories and assume credit risks. They hire the EU service affiliates to perform the same services in the UK, Germany and France, on the same cost-plus basis, as these EU service affiliates had been performing for AIS and AIM. Amazon Europe Holding Technologies (AEHT): AEHT is a Luxembourg entity. As is shown in Chart 4, it is the parent of AEU and, ultimately, of the LuxOps entities. Under US Mcheck the box" rules, AEU and the LuxOps entities are regarded as branches of AEHT for US income tax purposes. For this reason, I generally refer to the combined operations of AEU, LuxOps and AEHT as AEHT in the remainder of this report. 13 Final Goldcrest Structure w~th Intercompany Agreements Asreements in Existence; • • [~lilt'... Seier, .lac. ~AIS) U;S. ·~Europe Jfokinp, rae. (Bt1 Holdco) u.s. • A9.com,fllc. (A9) u.s. • ... ® • I I I I I I ..... I ,.I ~ --Sift~f:ll!.- '\ I ASBSub-Liceaso -- -::;;-i~ I ___1 ': A!U Sub-Li' AMEUSUI>~-::::~-,.,., ;~ ,...,.--::-- , , ,...- ..._, ""'.,. Buy-In I and II, and Amended Cost Sharing agreements between ·EHT, A9 ana Tech. Sub-license agreement between EHTandAEU. Sub-license agreement between AEUandASE. Sub-license agreement between, AEU and AMEU. Commissionaire agreement ~AMEU and·Jers~y~o. • ·Participation ~ent between ASE and Jerse}'Co. . • Intercompany services · agreements between ABU with .co.uk, Amazon.de, Logistik, .fr, ACSI and ADS!, respectively. • Intercompany distdbution agreements between..AEU with · Logistik and Logistique, respectively. Amements Modified: • I I I Short form cost sharing between A9andEHT. I I I . ' ama~on.com· ............,. Source: Amazon, Response to IDR 1-15 "'EU Service Affiliates ·"Ou•re dane.~ 66 D. Intercompany Agreements Amazon executed three agreements effective on January 1, 2005 in order to effectuate the restructuring. Prior to reorganization, AIS and AIM jointly operated the EU Website Business. To do so, they used valuable technology and other IP which were owned by AT and A9 and licensed to AIS and AIM. A principal objective of the restructuring was to have AEHT operate the EU Website Business starting on the Business Transfer Date. Therefore, it was necessary for the technology and IP owned by AT and A9 and licensed to AIS and AIM to instead be licensed to AEHT. The parties created two agreements, the License Agreement and the Assignment Agreement, to do so. Another objective of the restructuring was to establish a Qualified Cost Sharing Arrangement for sharing Amazon's intangible development costs during and after the restructuring. 27 Accordingly, the parties signed the Cost Sharing Agreement. Each of these agreements is discussed below, starting with the Cost Sharing Agreement. 1. Cost Sharing Agreement As stated above, effective January 1, 2005, AT and A9, together with AEHT, entered into the Cost Sharing Agreement. Pursuant to the agreement, AEHT made quarterly cost sharing payments to A9 and AT to assist in the ongoing development of the intangible property to be used by ACI and its affiliates. 27 Recitals to Cost Sharing Agreement, page 1. 15 Amazon intended the Cost Sharing Agreement to meet the requirements of a "qualified cost-sharing arrangement" ("QCSA") under the section 482 regulations.28 These requirements are discussed in the next section of this report. 2. License Agreement At the same time, AEHT and AT entered into two agreements to transfer the intellectual property needed to operate the EU Website Business from AT to AEHT. The License Agreement made available some but not all of this IP. Specifically, it transferred "Amazon Intellectual Property" which it defined in paragraph 1.2, as: 'Amazon Intellectual Property' means (a) any and all intellectual property rights throughout the world, owned or otherwise held by Amazon Technologies proper to the Effective Date whether existing under intellectual property, unfair competition or trade secret laws, or under statute or at common law or equity, including but not limited to: (i) copyrights (including but not limited to reviews and editorial content), trade secrets, trademarks, patents, inventions, designs, trade dress, "moral rights," mask works, rights of personality, publicity or privacy, rights in associate or vendor information, rights in customer information (including but not limited to customer lists and customer data) and any other intellectual property an proprietary rights (including but not limited to rights in databases, marketing strategies and marketing surveys); ... but (d) excluding all Excluded Intellectual Property. Paragraph 1.5 defines this last term: 'Excluded Intellectual Property' means copyrights on the content (but not the underlying code) associated with the web site operated from the URL http://www.amazon.co.uk (including, for the avoidance of doubt, any syndicated stores such as www.amazon.co.uklwaterstones), http://www/amazon.de, or http://www.amazon.fr, trademarks and trade dress for any European Country, Customer Information, and domain name registrations for any European Country. 28 The Cost Sharing Agreement states that it "... is intended to be a 'qualified cost sharing agreement' as defined by Treasure Regulation §1.482-7;" 16 In short, the License Agreement transferred a very broad bundle of IP to AEHT, except for a narrowly defined set of IP that was explicitly excluded. 3. Assignment Agreement The Assignment Agreement, which was effective on the same day as the License Agreement, basically transferred to AEHT the IP that was explicitly excluded in the License Agreement. Specifically, the IP to be transferred by the Assignment Agreement is described in Exhibit B, which contains a long list of domain registrations for URLs pertaining to European markets. It also specifies that all customer information for each person or entity having an account with any of these web sites shall be transferred to AEJ-IT. Exhibit B also contains a long list of trademarks registered in Europe. The Assignment Agreement does not transfer this collection of IP on the effective date of the Agreement, which is January 1, 2005. Instead, it specifies that the IP is to be transferred on the Business Transfer Date. In paragraph 1.3 of the Agreement, this date is defined as "...the date to be mutually agreed upon by the parties, expected to occur during 2006, upon which the Luxembourg Operating Group commences operation of the EU Website business." The parties eventually set this date as April30, 2006. Together, the License Agreement and the Assignment Agreement transferred a very broad bundle of IP to AEHT. This bundle of IP was intended to, and did, allow AEHT to operate the EU Website Business. The date or dates on which this bundle of IP was transferred is somewhat complex. However, it is clear that all of the IP that AEHT needed was transferred to it on or before the date that AEHT needed it. 17 E. IP Transferred to AEHT Since the main objective of this report is to provide an economic analysis of the IP that was transferred to AEHT, it is useful to discuss my understanding of the IP. The basic fact is that before the restructuring, AIS and AIM operated the EU Website Business; after the restructuring, AEHT operated it. Further, AEHT was created in mid2004 during the restructuring; therefore, it obviously did not possess any of its own IP before the restructuring. Thus, it is clear that the IP transferred in the restructuring consisted of all the IP necessary for AEHT to operate the EU Website Business. A principal example of the transferred IP is the set of domain names for the EU websites. It would have been extremely difficult for AEHT to operate the EU Website Business without being allowed to use the www.amazon.co.uk, www.amazon.de and www.amazon.fr domain names. By 2004, there was a large and growing base of customers in the EU who were accustomed to ordering products from Amazon. What this meant in practical terms is that, when they wanted to make a purchase using the internet, they were accustomed to steering their web browsers to one of these domain names. Therefore, any company allowed to use these domain names would have an immediate base of customers and would immediately be able to make a high volume of sales. Conversely, if AEHT tried to operate the EU Website Business without being allowed to use these domain names, AEHT would have had to register different domain names and then conduct an extensive marketing campaign to try to convince consumers to use them instead of the ones they were used to. Not only would this campaign likely have been expensive, there would have been considerable risk that it would have been unsuccessful. For example, as discussed above, Amazon had 18 competitors, but none of them were able to establish their websites as successfully as did Amazon. Once the customers were on AEHrs websites, AEHT needed additional aspects of the IP in order to operate the EU Website Business successfully. The customers were accustomed to seeing Amazon trademarks on the websites, as well as on their packages when delivered, and would have been confused if they did not see them on the websites and packages after the restructuring. Thus, AEHT needed the ability to display these trademarks. As discussed above, another important aspect of the success of Amazon's websites is that they worked well. Customers were able to find the products they wanted, order them successfully with a minimum of frustration, have confidence that they could enter their credit card or bank account information without later discovering incorrect or unauthorized charges, and have their products shipped to them accurately and promptly. These functions were aided by the software and fulfillment systems that Amazon had developed and was using at the time of the restructuring. AEHT's ability to take over this bundle of software and systems was therefore a major benefit. In short, as the result of the restructuring, AEHT took over the operation of a successful business. The continued success of this business depended on a bundle of IP that included the domain names, trademarks, website software, and fulfillment systems. If AEHT had not been allowed to use this bundle of IP, it would have been extremely difficult for it to operate the EU Website Business successfully; with this bundle of IP, AEHT could do so. For this reason, in my view the IP transferred by the 19 restructuring should be analyzed as a bundle, and in the context of the transfer of a business. This sort of transfer may be contrasted with the transfer of a discrete item of IP such as the formula for a pharmaceutical product or the schematic of a computer chip or a stand-alone software program. A drug is valued for its ability to cure a disease or alleviate pain or have some other beneficial effect on a patient. A computer chip or software program is valued for the technologically advanced functions it can perform. These benefits are more free-standing and objective than the benefits enjoyed by a consumer who shops on Amazon. As a consequence, it is often easier to analyze the value of a drug patent or a computer chip design or software program on a freestanding basis, rather than as part of a business. For example, there may be arm's length licenses for similar drug patents or software programs; if so, it may be possible to base a transfer pricing analysis on the arm's length royalty rates. Further, consider the question of useful life. Because a drug or computer chip or software program is valued for the advanced functions it can perform, it will become much less valuable when something even more advanced comes along. Therefore, such products tend to have a definite useful life. That is, there comes a time when noone wishes to buy the product because it is possible to buy an even more powerful one. For example, even if it were possible to do so very cheaply, very few people would wish to buy a 1990's-era personal computer or word-processing program, since current versions of these products are so much more capable. 29 30 29 Drugs tend to have a definite economic useful life for an additional reason. Because drugs can generally be copied relatively easily once their patent protection expires, they lose their monopoly advantage when this happens. Then, even if the drug is still valued for its functions, it can lose much of its economic value because its monopoly price can disappear. 20 In contrast, much of the IP associated with the EU Website Business may be useful for a long time. Consumers do business with Amazon in order to buy specific books, music CDs, etc. However, even though the useful life of a specific book or music CD may be short, consumers may well continue to value the fact that shopping on Amazon is easy, reliable and "hassle-free". If so, the domain names, trademarks and other elements of the IP associated with the business will continue to generate high volumes of sales, possibly for a long time. Unlike an item of IP valued for its leadingedge technology, which is likely to be replaced by a subsequent technological development, it is not possible to predict when the IP associated with Amazon's business will cease to generate sales. Therefore, the IP associated with the EU Website Business should be regarded as having an indefinite useful life. Of course, the IP associated with the EU Website Business may not be useful forever. Some other internet retailer may find a superior way of doing business. Or, just as internet retailing supplanted a portion of traditional "bricks and mortar" retailing, there may be a whole new form of retailing in the future which will affect Amazon's business model. 31 Thus, as one tries to look further out into the future, one should regard the value of the IP as increasingly uncertain. This increasing uncertainty should be taken into account in the analysis. However, it is not sensible to do so by pretending 30 Note that I am not taking a position on the correct methods to use to perform a valuation in a situation involving any specific company involved in drugs, computer chips, software products, or any other product. Nor am I taking a position on whether or not IP value besides the rights to make and sell certain existing products was transferred in any situation not involving Amazon. 31 For example, in recent years, sales of music COs have been heavily affected by the rise of Apple Inc.'s iPod I iTunes system and retailers dependent on music COs such as Tower Records have disappeared. Books, too, have seen the rise of a new form of retailing recently but, in this case, Amazon seems to be retaining its market share through the introduction of its Kindle product. Whether other aspects of Amazon's business will be affected by similar developments, and if so when, is unknown. 21 that the IP associated with the EU Website Business has a definite useful life equal to a certain number of years. In sum, the objective of this report is to analyze the IP transferred to AEHT in the context of the restructuring. This IP included the European domain names, trademarks, website software, fulfillment systems, and all other elements of the bundle of IP necessary to operate the EU Website Business. The next section of this report discusses the requirements of the us tax regulations in connection with the transfer of this IP. Ill. Arm's Length Standard and Transfer Pricing Methods As described above, Amazon transferred IP to AEHT as part of the restructuring. The regulations under section 482 of the Internal Revenue Code require that AEHT pay an appropriate amount for the IP to AT, the owner. The appropriate amount is the amount that an independent party operating at arm's length would have paid. The section 482 regulations and the arm's length standard are discussed below. A. Section 482 Regulations and Arm's Length Standard Section 482 is intended to place a controlled taxpayer on a tax parity with an uncontrolled taxpayer to ensure that the controlled taxpayer clearly reflects income attributable to intercompany transactions and to prevent tax avoidance with respect to these transactions. 32 In order to meet these objectives, the section 482 regulations require that controlled transactions produce results that are consistent with the results 32 Treas. Reg. §1.482-1{a){1). 22 that would have been realized if uncontrolled taxpayers had engaged in the same transactions under the same circumstances. This is the arm's length standard. 33 B. Cost-Sharing Arrangements and Transfers of IP According to the section 482 regulations, a QCSA is "an agreement under which the parties agree to share the costs of development of one or more intangibles in proportion to their shares of reasonably anticipated benefits from their individual exploitation of the interests in the intangibles assigned to them under the arrangement."34 The costs related to the development of intangibfes to be shared under a cost sharing agreement are defined by the regulations as intangible development costs ("IDCs"). 35 The regulations require that these costs be shared between the related parties on the basis of the reasonably anticipated benefits to be derived from the exploitation of the covered intangibles. 36 The regulations note that "[i]f a controlled participant makes pre-existing intangible property in which it owns an interest available to other controlled participants for purposes of research in the intangible development area under a qualified cost sharing arrangement, then each such other controlled participant must make a buy-in payment to the owner."37 This section further states that a buy-in payment equals the arm's length charge for the use of the intangibles, as determined under sections 1.482-1 and 1.482-4 through -6 of the regulations, multiplied by the controlled participant's share of the reasonably anticipated benefits derived from the use of the covered intangibles. 33 34 35 36 37 Treas. Treas. Treas. Treas. Treas. Reg. §1.482-1(b)(1). Reg. §1.482-7(a)(1). Reg. §1.482-7(d)(1). Reg. §1.482-7(e)(2). Reg. §1.482-7(g)(2}. 23 A buy-in payment can be made in the form of a lump sum, installment payments, or royalties or other payments contingent on the use of the intangible. 38 C. Transfer Pricing Methods for Intangible Property Thus, AEHT was required to make a payment or payments to AT for the IP transferred as part of the restructuring, and to apply the intangible pricing methods of the regulations articulated in sections 1.482-4 through -6 of the regulations to determine the payment or payments. The methods are: 1. 2. 3. 4. Comparable uncontrolled transaction ("CUT") method, Comparable profits method ("CPM"), Profit split methods, and Unspecified methods. 1. Comparable Uncontrolled Transaction Method The CUT method evaluates whether the amount charged for a controlled transfer of intangible property is arm's length by reference to the amount charged in a comparable uncontrolled transaction. 39 If an uncontrolled transaction involves the same intangible under the same or substantially similar conditions as the controlled transaction, the results derived from the CUT method will generally be the most direct and reliable measure of an arm's length results for the controlled transfer of an intangible.40 Circumstances between the controlled and uncontrolled transactions will be considered substantially the same under the regulations if there are at most only minor differences that have a definite and reasonably ascertainable effect on the amount charged in the relevant transaction and for which appropriate adjustments are 38 Treas. Reg. §1.482-7(g)(7)(i)-(iii). Treas. Reg. §1.482-4(c)(1 ). 40 Treas. Reg. §1.482-4(c)(2){ii). 39 24 made.41 Intangible property will be considered comparable if it is used in connection with similar products and processes within the same general industry or market, and if it has a profrt potential similar to the intangible property involved in the controlled transaction. 42 Profit potential is most reliably measured by the net present value of the benefits to be realized, the risks assumed, and other relevant considerations. 43 Whether circumstances will be considered comparable requires an evaluation of all relevant factors, including the following: 44 (1) (2) (3) (4) (5) (6) (7) (8) terms of the transfer, including exploitation rights, exclusivity of rights, restrictions on use, and limitations on the geographic area of exploitation; stage of development of the intangible (including, where relevant, government approvals) in the market in which the intangible is used; rights to receive updates, revisions or modifications; uniqueness of the property and the period for which it remains unique (including the degree of legal protection); the duration of the license, including any termination or renegotiation rights; economic and product liability risks assumed by the licensee; existence of collateral transactions or ongoing business relationships between the transferor and transferee; and functions performed by the transferor and transferee, including ancillary or subsidiary services. 2. Comparable Profits Method The comparable profits method evaluates whether the amount charged in a controlled transaction is arm's length based on profit level indicators derived from uncontrolled taxpayers that engage in similar business activities under similar circumstances. 45 Under this method, the determination of an arm's length result is 41 42 43 44 1bid. Treas. Reg. §1.482-4(c}(2)(iii)(B)(1 )(i)-(ii). 1bid. Treas. Reg. §1.482-4(c}(2}(ii). 45 Treas. Reg. §1.482-S(a). 25 based on the amount of operating profit that a participant in a controlled transaction (the "tested party") would have earned on related party transactions if its profit level indicator were equal to that of an uncontrolled comparable. 46 Profit level indicators that may provide a reliable basis for analysis under the comparable profits method include the ratio of operating profit to operating assets, the ratio of operating profrt to sales, the ratio of gross profit to operating expenses, and other indicators not specified in the regulations. 47 Comparability is determined according to the provisions of Treas. Reg. §1.482-1(d)(2).48 Specific considerations in this regard include comparability in terms of line of business, product or service market involved, asset composition employed, size and scope of operations, and the stage in a business or product cycle. 49 3. Profit Split Methods The profit split method, which comprises two allocation methods, the "comparable profit split" and the "residual profit split", evaluates whether the allocation of combined operating profit or loss attributable to one or more controlled transactions is arm's length by reference to the relative value of each controlled taxpayer's contributions to that combined operating profit or loss.50 The allocation derived from the use of the profit split method is intended to correspond to the division of profit or loss that would result from an arrangement between uncontroUed taxpayers performing functions similar to those of the various controlled taxpayers engaged in the relevant 46 Treas. Reg. Treas. Reg. 48 1bid. 49 Treas. Reg. 50 Treas. Reg. 47 §1.482-S(b). §1.482-5(b)(4). §1.482-5(c). §1.482-S(a),(c). 26 business activity. 51 The allocation of profit or loss must be made under one of two methods described in the regulations-the comparable profit split or the residual profit split. 52 The comparable profit split method applies the profit split observed in comparable unrelated-party situations, if any such situations can be found. The residual profit split method is typically applied when both parties to a controlled transaction contribute valuable intangible property to the business activity. In cases where there is intangible property present, there will normally be an amount of residual profrt after a deduction of returns on each party's "routine contributionsp to the business activity. This residual profit is allocated to the parties' intangible property based on estimated relative value. Treas. Reg. §1.482-6(c)(3)(i)(B) provides that the relative value of intangible property contributed by each taxpayer may be measured based on 1) external benchmarks that reflect the fair market value of such intangibles, 2) the capitalized cost of developing the intangibles, or 3) if the intangible development expenditures are relatively constant over time and the useful life of the intangible property is approximately the same, the amount of actual intangible development expenditures in recent years. 4. Unspecified Methods The regulations also permit the application of unspecified methods to evaluate whether the amount charged in a controlled transaction is arm's length. 53 Unspecified 51 Treas. Reg. §1.482-6(b). Treas. Reg. §1.482-6(c). 53 Treas. Reg. §1.482-4(d)(1). 52 27 methods must be applied in accordance with the provisions of Treas. Reg. §1.482-1. 54 The application of an unspecified method is guided by the notion that, "consistent with the specified methods, an unspecified method should take into account the general principle that uncontrolled taxpayers evaluate the terms of a transaction by considering the realistic alternatives-to that transaction, and only enter into a particular transaction if none of the alternatives is preferable to it. "55 D. Summary Under the License and Assignment Agreements, Amazon transferred IP to AEHT so that AEHT could operate the EU Website Business and participate in a QCSA. The regulations under section 482 require that AEHT pay an arm's length amount for the IP and prescribe methods for determining this amount. The remainder of this report discusses whether the analysis presented in the Deloitte Report satisfies this requirement and, if not, how this requirement may best be met. IV. Summary and Critique of Deloitte Report The Deloitte Report calculated the amounts that AEHT should pay for the transfer of IP under the License and Assignment Agreements. 56 There are several reasons why I believe the analysis presented in the Deloitte Report does not produce an arm's length result. To help structure my critique, I first review Deloitte's analysis in a stepwise fashion. I then provide my critique of each of these steps. 54 Ibid. Treas. Reg. §1.482-4(d)(1). 56 The Deloitte Report uses the term •per payments" for the amounts that AEHT should pay in return for the transferred IP. This term is from the August 22, 2005 proposed regulations for cost-sharing; it is defined in Prop Treas. Reg. Sec 1.482-7(b)(3)(iii). The preamble to these proposed regulations state that "PCr stands for "Preliminary or Contemporaneous Transactions." 55 28 A. Summary of Deloitte Report The steps Deloitte took to apply its method are as follows: 57 Step 1: Choice of Best Method The Deloitte Report states, Upon review of the specified methods available for testing the arm's length nature of the PCT Payments, it was determined that an unspecified income-based method was the most reliable testing method. This is the Oeloitte Report's only discussion of alternative methods or why it selected the method it did .. Step 2: Identify IP Transferred to AEHT The next step in Deloitte's analysis was to identify the IP transferred to AEHT ' under the restructuring. This included aiiiP related to the EU Website Business. As Deloitte wrote, [An·s Pre-Existing IP and Assigned IP consist of various intellectual properties that [ACI] has developed over time. All Pre-Existing IP and Assigned IP currently utilized in the EU Website Business have been made available to [AEHn under the terms of the License, Assignment and or the QCSA. 58 More specifically, the IP included integrated software that encompasses website management, search, customer interaction, recommendation, transaction-processing, and fulfillment services. As Oeloitte wrote, [s]oftware has been developed that management considers unique to Amazon's business, especially those technologies related to searching the 57 The Deloitte Report describes its analysis as •a four-step approach" (see page 24). However, some of these steps are so complicated that, in the interests of clarity, I find it useful to decompose them. 58 Deloitte Report, page 25 29 Amazon websites and the customer-specific tailorini' of the websites with information gather from the customer's interactions.5 This suggests that Amazon management placed considerable value on the uniqueness of the software in the operations of its business. The IP also included marketing-related intangibles as well as other forms of intellectual property, including: a number of trademarks, service marks, copyr_ights, patents, domain names, trade dress, trade secrets, proprietary technologies, and similar IP.60 Step 3: Select IP Useful Life The next step in Deloitte's analysis was to select a useful life for the IP. To estimate this useful life, Deloitte conducted interviews with Amazon personnel, performed a customer lifing analysis, and analyzed expected software life by reviewing the history of Microsoft's technical support provided for its various software products. These analyses indicated a useful life of three to five years. Ultimately, Deloitte selected a seven year useful life for its analysis. Step 4: Compute TotaiiP-related Operating Profits Deloitte then estimated profits attributable to the IP. Deloitte's starting point for this estimate was Amazon management projections for the EU Website Business' operating profits from 2005 through 2011. 61 Deloitte removed AEHT's "readily identifiable returns" from these projected operating profits to calculate the IP-related operating profits. Deloitte estimated AEHT's readily identifiable returns as equal to a 4.5 percent markup on costs based on a net cost plus markup ("NCPM") analysis. For its 59 60 61 lbid. Ibid. These projections excluded the EU Services affiliates. 30 NCPM analysis, Oeloitte selected a set of independent management consulting companies as comparables to AEHT's operations. A 4.5% markup on costs fell within the range of results for these comparables. Step 5: Split IP Between Licensed IP and Assigned IP Deloitte split the estimated IP related operating profits computed in Step 4 between two components: 1) Licensed IP under the License Agreement ('"Licensed IP") and 2) Assigned IP under the Assignment Agreement ("Assigned IP"). Deloitte deemed this step was necessary to adjust for the fact that the Licensed IP was transferred as of January 1, 2005, but the Assigned IP wasn't transferred to AEHT until the Business Transfer Date, April 30, 2006. The rationale Oeloitte used for making this adjustment was that AIS and AIM, ·as operators of the European Website Business, would continue to earn the IP profits related to the Assigned IP between the January 1, 2005 and the Business Transfer Date. In fact, AIS and AIM earned all of the profits from the EU Website Business during this period, including the profits attributable to the Licensed IP as well as the Assigned IP. Nonetheless, Deloitte decided that an adjustment was necessary with regard to the Assigned IP only. Deloitte used an Amazon agreement with Waterstones, an unrelated UK bookseller, to estimate the value of the Assigned IP. Deloitte estimated this amount to be $182 million. The $182 million was then converted into an annual $41.2 million amount for each of the seven years over which PCT payments were to be made by 31 AEHT. 62 The $41.2 million value was then subtracted from the IP-related operating profits to compute licensed IP-related profits. Step 6: Allocate Portion of Licensed IP to Pre-Existing IP On pages 35-38, Deloitte allocated a portion of remaining IP profits to the preexisting IP. Deloitte justified this approach by that asserting that, [b]ecause the PCT Payments relate to only Pre-Existing IP and the Assigned IP, it is necessary to allocate the intangibles profit based on the relative contribution of the Pre-Existing IP and the Assigned IP and CostShared IP that will be created subsequently. 63 Thus, by separating out profits due to "readily identifiable returns," Deloitte attributed some of the forecasted profrts to IP. Because these IP-related profits happen in the future, Deloitte took the position that some of these profits must be attributable to IP that is developed in the future. This is so even though all of the IP profits in Deloitte's model are forecasted to come from the EU Website Business; none of them are forecasted to come from new business ventures unrelated to the EU Website Business. Thus, all of the IP profits in Deloitte's model are forecasted to come from the business that was transferred to AEHT as the result of the restructuring. Deloitte calculated the portion of IP profits allocable to pre-existing IP as follows. First, Deloitte computed the ratios of IDCs that took place before the Business Transfer Date to total IDCs as of each PCT payment date. Then Deloitte applied these ratios to the profits determined in Step 5 to be related to the Licensed IP. Deloitte estimated the IDC amounts using historical and projected costs related to IP development activities. These costs were "accumulated" and "adjusted for the decline, or amortization of the 62 63 Deloitte used a 13% estimate of Amazon's cost of capital for the conversion. Deloitte Report, page 35. 32 benefits associated with those activities. "64 Oeloitte included historical costs back to 1999 and projected costs through 2011 in its analysis. These costs were adjusted to 2005 dollars assuming a 5% inflation rate. 65 Deloitte assumed the amortization of these accumulated costs followed a Weibull distribution with a seven year usefullife.66 The resulting amounts from this step were equal to the value of the pre-existing Licensed IP which was to be paid by AEHT to AT ("License PCT Payments"). Step 7: Allocate Portion of Assigned IP to Pre-Existing IP Oeloitte allocated a portion of Assigned IP from Step 5 to pre-existing IP in the same manner as for Licensed IP in Step 6. However, for 2005, Deloitte decided that AEHT was not required to make a PCT payment for the Assigned IP because, as described above, AIS and AIM, as operators of the EU Website Business during 2005. eamed the operating profit associated with the Assigned IP.67 The resulting amounts from this step formed the value of the pre-existing Assigned IP which was to be paid by AEHT to AT ("Assignment PCT Payments"). Step 8: Result The PCT payments to be made by AEHT to AT were equal to the sum of the License PCT Payments from Step 6 and the Assignment PCT Payments from Step 7: 64 1bid. The measurement of the IOC amounts was not discussed in the main text of the Oeloitte report, but the IDC amounts were presented in Appendix 8. 66 In addition to a useful life assumption, Weibull distributions depend on the values of an alpha and beta parameter which help to define the shape of the distribution. Deloitte assumed the alpha parameter was equal to 2. 7 and the beta parameter to be 2.0. No explanation was given for why these values were chosen. 61 As noted above, AIS and AIM earned the operating profits associated with the Licensed IP during 2005 as well. 65 33 Figure 1 Intercompany PCT Payments ($ millions) Year 2005 2006 2007 2008 2009 2010 2011 Total License ~ignment PCT Payments PCT Payments 73.220 66.170 47.330 25.460 10.220 3.090 1.030 226.520 0.000 16.514 7.619 2.803 0.818 0.187 0.050 27.991 Total 73.220 82.684 54.949 28.263 11.038 3.277 1.080 254.511 The PCT payments to be made across the seven year period in total were equal to $254.5 million. In Appendix 9 of the Deloitte Report, Deloitte estimated the present value ofthese payments to be $216.7 million as of December 31, 2004.68 B. Critique of Deloitte Report I have several issues with the analysis in the Deloitte Report. I discuss each of these issues below. Step 1: Choice of Best Method The Deloitte Report does not discuss why it selected its "unspecified incomebased method" as the best method to use. It does not discuss which of the specified methods were considered or why they were rejected. As I discuss below, Amazon's Merchants@ program provides Some evidence of compensation paid by uncontrolled parties for the use of Amazon's IP; therefore, the CUT method should have been considered. 68 In Appendix 9, the Oeloitte Report notes that the calculation uses a "13% discount rate (WACC of Amazon.com), discounting from the middle of the year to the beginning of 2005." 34 Further, the Deloitte Report does not discuss why, given that an unspecified method should be used, the method it selected is a reliable one. For the reasons discussed below, I conclude that it is not. Step 2: Identify IP Transferred to AEHT As is quoted above, the Deloitte Report states that, "[a]ll ... IP currently utilized in the EU Website Businesses have been made available to [AEHT] under the terms of the License, Assignment and/or the QCSA.tt69 Note that the QCSA concerns the development of future IP. Thus, at the time of the transfer of the EU Website Business, aiiiP that AEHT needed to take over the operation of this successful business was conveyed to AEHT by the License and Assignment Agreements. I agree that this is the IP for which AEHT must pay an arm's length amount. Step 3: Select IP Useful Life Deloitte assumed that the useful life for Amazon's IP was seven years. Deloitte supported this useful life with a "customer lifing analysis" and an "IP useful life analysis." These analyses were documented in Appendix 6 and Appendix 7 ~f the Deloitte report, respectively. 1. Customer Liflng Analysis In Appendix 6 of the Deloitte report, Deloitte estimated an expected customer life of 2.84 years based on its review of Amazon European website customers' first and last order dates statistics from 1994 to 2004. No definition of a "customer" was provided in the Deloitte report. Therefore, I am uncertain about the quality of the data used in Deloitte's analysis. For instance, it is possible some of the new customers are actually repeat customers who created different user ID's. To the extent this flaw exists in the 69 Deloitte Report, page 25. 35 data, Deloitte's analysis would be skewed and thereby would produce artificially short estimates of customer life. In addition, order dates are not the proper basis for this analysis. Rather, it would have been more appropriate to use revenues as the basis for this type of analysis. Upon reviewing Deloitte's analysis, I noticed that a large number of Amazon's customers appear to be one-time shoppers whose first and last order dates were in the same year. Should these customers be given the same weight as a loyal customer who repeatedly shops at Amazon over multiple years and generates substantially more revenue for Amazon? Clearly the answer is no. In other words, Oeloitte's customer lifing analysis does not take into account what is most important to a company when it comes to its customers -the revenues customers generate. Therefore, I do not believe Deloitte's customer lifing analysis is a reliable basis for estimating the longevity of Amazon's marketing-related or any other intangibles conveyed to AEHT under the License and Assignment agreements. 2. IP Useful Life Analysis The Deloitte Report states that Amazon's technology replace cycle is three to five years. Deloitte based this conclusion on conversations with Amazon's technology and business development personnel. 70 In Appendix 7 of the Deloitte report, Deloitte provided support for this technology cycle by reviewing Microsoft's product support to provide a "general feel for the useful life of Internet related technology which can then be referenced when examining the useful life of Amazon's technology." 71 Deloitte found 70 71 Deloitte Report, page 26. Deloitte Report, Appendix 7, page 2. 36 that the median length of time that Microsoft offers free support for its software products was five years from the time that each product first went on sale. The length of time that Microsoft provides free product support is not a very good measure of the useful life of Amazon's IP for several reasons. First, there are obvious differences between Microsoft's products and the IP related to the operation of Amazon's EU Website Business. Second, the length of time that support is offered is not a valid measure of useful life even for Microsoft's products. The implicit assumption behind using this measure of useful life is that the software products have zero value once the free support period is over. However, if this were true, Microsoft would be willing to allow anyone to reproduce and sell one of its products for free after the five year support period is over. As far as I know, Microsoft has never permitted this to happen. The reason is that software products retain various kinds of value even after Microsoft has decided, as a marketing matter, to stop offering support. For these reasons, the length of the free support period is not a reliable way to estimate the useful life of software products, never mind for the IP transferred to AEHT in the context of the restructuring. 3. Proper Interpretation of Useful Life for Amazon's IP More fundamentally, as discussed above, the objective of the restructuring was to allow AEHT to take over the operation of the EU Website Business. Thus, the IP transferred consisted of the IP involved in operating an ongoing business. The life of this sort of IP is quite different from the life of specific software products. Because a software product ceases to be sold when a more powerful product comes along and renders it obsolete, one can predict that a software product will no longer generate 37 revenues after a certain number of years. However, the IP associated with the operation of a successful business may be useful for an indeterminate amount of time. For example, in Amazon's case, the domain names and trademarks may be in use for a long time. Therefore, it does not make sense to assign them a relatively short useful life equal to a certain number of years. For example, it makes no sense to believe that. in 2004, Amazon's European domain names would cease to be useful after seven years. For these reasons, a proper valuation of the IP transferred to AEHT should take into account the reality that the EU Website Business will continue to operate beyond seven years. Below, I discuss methods for doing so. Step 4: Compute TotaiiP-Related Operating Profits Oeloitte's calculations are based on a forecast of the revenues and operating profits of the EU Website Business for 2005 through 2011. I understand that this forecast comes from Amazon. I have no reason to question the validity of this forecast. Therefore, I accept Deloitte's calculations with regard to the measurement of operating profits for the EU Website Business. Step 5: Split Between Licensed IP and _Assigned IP Oeloitte's calculations make a distinction between IP transferred under the License Agreement and IP transferred under the Assignment Agreement. In practice, this distinction has an effect because Deloitte's approach assumes that AEHT should begin paying for the Licensed IP as of January 1, 2005, while AEHT should begin paying for the Assigned IP as of the Business Transfer Date, April 30, 2006. I do not understand this distinction. Both Agreements have the same effective date, January 1, 2005. In reality, neither Agreement had any practical effect until AEHT began operating 38 the EU Website Business on April30, 2006. 72 That is, AEHT did not have any revenues or operating expenses until that date, so it clearly did not earn any income from either of the Agreements until that time. In short, in my opinion, there is no need to differentiate between the value of Licensed IP and Assigned IP, nor is there a logical basis for doing so. Further, I do not find Deloitte's method for attempting to value these two types of IP separately to be convincing. First, there is no evidence that Deloitte considered third party arrangements other than the Waterstones arrangement. Other arrangements might have been more applicable to this type of analysis. Second, no justification was given for using 90 days of revenue for the customer referral commission portion of the analysis. Thus, the amortization of Assigned IP is unreasonably short. Steps 6 and 7: Allocate Portion of IP to Pre-Existing IP 1. Allocation lacks Valid Economic Rationale Deloitte's next steps are to allocate the forecasted IP profits between PreExisting IP and IP attributable to IDC payments made and expected to be made by AEHT under the Cost Sharing Agreement ("Cost-Shared IP"). Deloitte does this step separately for IP profrts attributable to the Licensed IP (step 6) and IP profits attributable to the Assigned IP (step 7). However, Deloitte's method for allocating between PreExisting IP and Cost-Shared IP are identical in steps 6 and 7. Therefore, I discuss them only once. n AEHT began making cost·sharing payments during 2005, before the Business Transfer Date. However, these payments were made pursuant to the Cost Sharing Agreement, not the License Agreement or the Assignment Agreement. Therefore, the existence of these payments does not provide a reason for differentiating between Licensed IP and Assigned IP. 39 These calculations suffer from a fundar:nental error. Deloitte's method assumes that the forecasted future profits arising from the IP transferred at the time of the restructuring are somehow reduced, or for some reason should be reduced, by the fact that AEHT will make IDC payments under the Cost Sharing Agreement. This assumption has the effect of taking some of the value of the IP that was transferred at the time of the restructuring and associating it with the IDCs to be made in the future. Economic theory does not support the notion that forecasted IDCs of a buyer should attract premium residual profits in the future, thus reducing the value of the intangibles to the seller at the time of the transaction. This notion, if true, would imply that asset prices are determined not only by the total cash flows they are forecasted to generate, but also in part by the promised IDCs to be incurred by the buyer relative to those previously incurred by the seller. That is to say, under the logic of Deloitte's method, for a given amount of cash flow, higher expected expenses by AEHT under the CSA would allegedly reduce the value of the intangibles to AT at the time of the transaction because AT would allegedly accept a smaller portion-and AEHT demand a higher portion-of future residual profits. As such, because AEHT is expected to incur more future expenses relative to the AT's declining historical expenses, the current value of the asset to AT would allegedly decline. 73 This is not how asset prices are determined at arm's length. As stated above, Deloitte defends its method by stating that "[b]ecause the PCT Payments relate to only Pre-Existing IP and the Assigned IP, it is necessary to allocate the intangibles profit based on the relative contribution of the Pre-Existing IP and the 73 This decline would be on account of potentially lower expected future profitability due to the AEHT's higher cost, but also, incorrectly, on account of Ars reduced share of future profits. 40 Assigned IP aAd Cost-Shared IP that will be created subsequently."74 This is Deloitte's only discussion of why it believes its allocation method is valid. It is difficult to know, therefore, what ideas or arguments Deloitte had in mind for thinking its method makes economic sense. One possible explanation for Deloitte's approach is that the pre-existing IP would very rapidly lose value if IDC spending on it were to stop. However, even if this were true, it does not justify Deloitte's approach. To understand why, consider as a simplified analogy the value of a commercial airplane. The FAA has strict requirements for how often airplanes must be inspected and maintained. If an airline does not comply with the schedule of inspections and maintenance, it cannot fly the airplane and it will produce zero revenue. Consider an airplane that is due for an inspection in, say, six months. Assume that this airplane produces cash flow of approximately $1 million a month while it is in use. Thus, the airplane will produce a total cash flow of approximately $6 million before the required inspection. The current owner is free to decide that it will not have the plane inspected. If so, the total cash flow the plane will produce is only $6 million. Does this fact imply that the owner would be willing to sell the airplane for $6 million? The answer is no. The owner would and could sell the airplane for much more than this figure. The reason is that a potential buyer will be able to perform the inspection, renew the plane's FAA certification, continue to operate the plane after the six-month period, and earn cash flows well in excess of $6 million. Thus, a willing buyer will offer much more than $6 million for the plane, and a willing seller will therefore refuse to accept only $6 million. 74 Deloitte Report, page 35. 41 Under the logic of the Deloitte's method (i.e., allocation of forecasted IP profits according to historic IDC capital stocks and Cost-Shared capital stocks), an owner of IP allegedly is willing to accept less for an asset because the asset will become worthless in the future if the expenses necessary to preserve its value are not made. This is not a sensible way to value an asset. Instead, the proper question to ask is, how much cash flow will the asset produce into the Mure if the expenses that are clearly worthwhile continue to be made? As long as the cash flow, net of the required expenses, continues to be high, the asset will have a high value. This is true even though the asset would stop producing income if the expenses were not made. In this case, Deloitte's reasoning seems to be that the intangibles conveyed under the License and Assignment agreements would be worth less at the time of the transaction since AT could choose not to pay the necessary future maintenance and development costs, just as an airline could choose not to do the required FAA inspection. Again, this is not how asset values are determined at arm's length. Instead, both the seller and the buyer in an arm's length transaction would know that the asset would continue to be more valuable over time if the appropriate amounts were spent on maintaining and renewing it. 75 Therefore, both the seller arid buyer would value the asset assuming that such investment would continue to be made. At arm's length, buyers cannot buy an airplane-based only on a few months' use, nor can buyers purchase IP for expected future costs. Asset prices reflect the sellers' and buyers' anticipated future cash flows from use of the asset, not future costs relative 75 This point is analogous to the concept of "highest and best use" in the context of appraisals. One could argue that an apartment building should receive a low appraisal because the owner could rent the apartments for zero or low rental rates. However, this would be an error. Instead, the appraisal should be based on market rental rates, because such rates represent a reasonable estimate of the "highest and best use" to which a potential new owner could put the building. 42 to the sellers' previous costs. 76 By bifurcating future profits between historic IDC capital stocks and forecasted Cost-Shared capital stocks, Deloitte's method results in a value for the IP which is less than the market would be willing to pay. 2. Weibull Amortization is Unreasonable In order to allocate profits to the Pre-Existing IP and the Assigned IP, Deloitte capitalized and amortized JDCs to create IDC capital stocks. Deloitte then calculated the ratios of capital stocks related to the Pre-Existing IP and the Assigned IP, as percentages of the total IP capital stock. Deloitte computed these ratios for each PCT payment and used them to allocate IP profit for each one. This approach required Deloitte to make assumptions about the useful life and amortization of the IDCs. I do not believe Deloitte's assumptions were reasonable. Deloitte used the Weibull distribution as the pattern for Amazon's IP amortization. Deloitte supported its use of the Weibull distribution by claiming that it is used in the software industry. I am not aware that the Weibull distribution is used by the software industry. Regardless, Amazon is not in the software industry; it is an internet retailer. Unlike Microsoft or SAP, Amazon's profrts are not attributable solely or even mostly to software. Instead, IP that generates customer loyalty, such as the domain names and trademarks, are at least as important to Amazon's success as its software. Deloitte showed in Appendix 6 that its customer life analysis frts a Weibull distribution. Deloitte did not mention the number of years over which this distribution 78 One way to view the proper context for a valuation is to consider that an owner of an asset always has the alternative of retaining the asset for its own use and incurring the future costs necessary to maintain operation of the asset. Therefore, value is estimated based on all expected future profits net of expected future costs since if the current owner of the asset decided to retain ownership and incur all future costs, it would have sole claim to all future profits. At arm's length, the owner would not sell the asset for less than it could expect to earn itself. 43 was amortized. Based on the curve, it appears to be much greater than seven years and possibly up to 20 years. Furthermore, as discussed above, I am unconvinced as to the validity of Deloitte's customer lifing analysis. Therefore, whether or not the data from the customer lifing analysis fits a Weibull distribution does not prove to me that the Weibull distribution is a valid basis for amortization of IDC capital stocks in this instance. In any case, the pattern by which the IDCs should be amortized is not relevant to a valid calculation of the amount that AEHT would pay for the transferred IP at arm's length. This is because an arm's length party that owns valuable IP would not be willing to transfer it merely because the transferee is going to spend money on IDCs in the future. C. Implications of the Deloitte Report's Method In sum, I conclude that the method used in the Deloitte Report suffers from fundamental flaws. Because of these flaws, the payments that the Deloitte Report recommends that AEHT make in return for the transferred IP do not reflect arm's length amounts. Recall that the Deloitte Report concluded that AEHT should make PCT payments during the seven·year period 2005--2011 which sum to approximately $254.5 million. Below I perform my own calculations to value the IP transferred to AEHT. These calculations are based on Amazon's forecasts of the revenues and expenses of the EU Website Business for 2005 through 2011, as shown in the Deloitte Report. In the context of these calculations, I can calculate how much AEHT would be forecasted to earn if it were to make the PCT payments recommended in the Deloitte Report. These 44 amount~ of income, net of the PCT payments and net of forecasted IDC payments pursuant to the Cost Sharing Agreement, are: 77 Figure 2 .AEHT Expected Profit ($millions) Year Expected Profit ($ millions) 2005 2006 2007 2008 2009 2010 2011 Total (159.4) 148.2 173.4 319.0 478.7 652.5 828.4 $2,440.8 Thus, over the seven-year period 2005-2011, I calculate that AEHT would earn approximately $2,440.8 in operating profits from the EU Website Business. Yet, under Deloitte's method, it would pay a total of only $254.5 million for the IP necessary to take over this business. Thus, over the seven years, AEHT would earn more than $9 for every dollar it paid out for the IP necessary to take over the business. 78 In addition, AEHT would continue to earn profits after 2011 without making any further payments for the transferred IP. This would be a very good deal for AEHT. Conversely, it would be a very bad deal for the US Amazon entities. They would give up more than $9 in income for each $1 in IP payments they receive during 2005-2011. In addition, they would give up all 77 78 See Table 2 attached at the back of this report. $2,440.8/ $254.5 = $9.6. 45 forecasted IP profits after 2011. In my opinion, this is not an arrangement to which arm's length parties would agree. There is another way to express just how good a deal this would be for AEHT. One can view the above pattern of profits as an investment project by AEHT. By making the PCT payments and an IDC payment in 2005, AEHT would, in effect, lay out $159.4 million in this year. Then it would earn the above forecasted amounts of profits (net of PCT payments) in 2006-2011. One can thus view the profits in 2006-2011 as a return on the investment made in 2005. How good an investment project would this be for AEHT? The way to answer this question is to consider the rate of return that AEHT would realize from it. A tool frequently used by financial analysts to calculate a rate of return on an investment project is the "internal rate of return" or "IRR". This concept and the formula for it are discussed in more detail below. It turns out that the IRR on AEHT's investment would equal128 percent19 One hundred and twenty-eight percent is, of course, an extremely high rate of return to expect to receive on an investment. In my opinion, it is considerably higher than the rate of return that any reasonable arm's length investor would expect to receive in a comparable situation. Therefore, this result confirms, in my opinion, that the Deloitte Report's recommendations are not consistent with arm's length. There is one more way to illustrate why I conclude that the Deloitte Report's recommendations are not reasonable. As discussed above, the Deloitte Report allocates the profits attributable to IP between, on the one hand, Licensed IP and Assigned IP and, on the other, Cost-Shared IP. The former two categories give rise to the PCT payments recommended by Deloitte. The third category equals the portion of 79 See Table 2. 46 IP profrts that AEHT does not have to pay to AT in return for taking over the operation of the EU Website Business. The following chart displays the relative amounts of these three types of IP profits: 80 ChartS Summary of Results From Deloltte Report's Method Allocation of Profits Attributable to IP 1.000.0 900.0 800.0 1 "E 100.0 800.0 ~ 500.0 400.0 300.0 200.0 100.0 In my opinion, it is clear that, under Deloitte's methodology, AEHT would be allowed to retain an unreasonably large portion of the IP profits arising from the EU Website Business. This occurs because Deloitte's recommendations for the payments that AEHT should make in return for the transferred IP are unreasonably low. In sum, I conclude that the recommendations of the Deloitte Report are not consistent with the arm's length standard. Therefore, I perform my own analysis of the amounts that an arm's length party in AEHT's situation would pay in return for receiving 80 Table 3 displays the figures that are graphed in Chart 5. 47 the IP transferred by the License and Assignment Agreements. To begin this analysis, in the following section I consider which method or methods are the best to use. V. Analysis of Best Method Given t~e available data, and in light of all relevant facts and circumstances and the principles of the best method rule in Treas. Reg. §1.482-1 (c), I conclude that none of the specified methods described in the regulations is likely to provide a sufficiently reliable measure of an arm's length result for the transfer of the IP between AT and AEHT. Instead, I apply a discounted cash flow ("DCF") method as my primary method. Applicability of the specified methods is discussed in this section. In the following section of this report, I discuss the DCF method. A. The CUT Method I was unable to apply the CUT method as a primary method, but I do use unrelated transactional data to test the reasonableness of the results derived under my primary method. In its Merchant@ program, Amazon allowed (and allows) third party merchants to use its valuable intangible property in return for a fee charged as a commission on the merchants' sales. These third party seller channels allow other retailers to use Amazon's a-commerce solutions for their own sale of goods. I use the commission rates charged by Amazon as a way to test results derived from my DCF method. Since AEHT differs from the retailers in the Merchants@ program, I have not relied on this CUT method as a primary method. Commission rates in the program vary based on product mix and may vary based on volume of transactions. I am not 48 confident that I can adjust reliably uncontrolled commission rates for product mix and volume differences between the related and unrelated party transactions. In contrast, the OCF method I apply is specific to the expected cash flows of AEHT and therefore recognizes the effect of expected product mix, volume, and ultimately profit or losses on intangible property values. B. Profit Split Methods The profit split methods would not be reliable methods to apply in this case in my opinion. I am unaware of any comparable transactions which would allow me to apply reliably the comparable profit split method. The residual profit split method would also produce unreliable results. At the date of the intercompany agreements, AEHT did not own any IP of its own. As discussed above, AEHT was created as part of the restructuring. Prior to the Cost Sharing Agreement, AEHT did not incur any IOCs. Further, before the restructuring, the EU Website Business was conducted by two US companies-AIS and AIM-not AEHT. Because of the absence of AEHT's ownership of significant IP of its own before the transfer under the License and Assignment Agreements, the residual profit split method is not the best method. That is to say, all value of the transferred IP belonged to AT; accordingly, there is no need to determine a split of profits attributable to IP at the time of the transfer. Consistent with these facts, in my OCF method I determine the arm's length value of all IP and recognize that full ownership of this IP resided with a US company. 49 C. Comparable Profits Method The CPM also would not produce a reliable measure of an arm's length result in this case. 81 It would be difficult to find companies with operations comparable to those of AEHT, which would be the only logical choice as tested party. Typically, comparable companies used in CPM analyses own no (or only routine) intangible property and have limited market risks. That is to say, no matter how successful or unsuccessful a product may be in the market place, the tested party's compensation would be relatively unaffected. Unlike the "typical" tested party, AEHT assumes both development and market risks with respect to sales in the EU. The intangible value I determine under the DCF method reflects this very different and relatively higher risk structure. AEHT's profits will be tied to market fortunes, and its return will not be benchmarked to the routine level of profits or losses more typical of a CPM. This outcome is consistent with arm's length dealings in my opinion. D. Conclusion on Applicability of Methods I conclude that the best method to apply in this case is an unspecified method. In my opinion, the DCF method, which is discussed in detail below, provides the most reliable way to determine the arm's length value of the IP transferred to AEHT under the License and Assignment Agreements. When a company acquires assets at arm's length, it generally pays a price which reflects the present value of the cash flow stream 81 The focus of my analysis is the valuation of the transferred intangible property to AEHT. I understand that the EU service affiliates (in the UK, Germany, and France) are compensated at costs plus a profit markup. I believe the arrangement with the EU service affiliates to be a reasonable approximation of an arm's length arrangement. However, I have not tested the arm's length nature of this compensation. The CPM would likely be the best method for determining this compensation. 50 those assets are expected to generate in the future. The DCF methodology that I apply is consistent with this general valuation principle. VI. Valuation Using Discounted Cash Flow A. Discounted Cash Flow (DCF) DCF is a method for estimating market values which is widely accepted by economists, mergers and acquisition specialists, company financial professionals, and valuation experts because it is based on sound financial principles. 82 Most assets, including entire businesses, are worth the discounted value of ~sh flows they are expected to generate. Its application requires an estimate of future cash flows, the timing of the cash flows, and an understanding of the risk of the inv~stment. Companies buy and use assets-and one goal of corporate investment policy is to find assets that cost less than the cash flows they are expected to generate. Value is based on expected cash flows because at the time of a transaction (e.g., the investment in an asset) future cash flows cannot be known for certain. The use of DCF to estimate value is so well-recognized that Jeff Bezos, founder and CEO of Amazon, has made it a central part of the firm's corporate culture. Mr. Bezos made this clear in his 19971etter to shareholders.83 The 19971etter states, "[w]hen forced to choose between optimizing the appearance of our GAAP accounting and maximizing the present value of future cash flows, we'll take the cash flows." 82 For a description of DCF, see any introductory financial textbook. For example, see Brealey, Richard A., Myers, Stewart C., and Allen, Franklin, Principles of Corporate Finance, ff' Edition, New York: McGraw-Hill Companies, 2008. See also Laro, David and Pratt, Shannon P. Business Valuation and Taxes: Procedure, Law•. and Perspective, New Jersey: John Wiley & Sons, Inc., 2005; Koller, Tim, Goedhart, Marc and Wessels, David, Valuation: Measuring and Managing the Value of Companies, .f' Edition, New Jersey: John Wiley & Sons. Inc., 2005; and, Damodaran, Aswath, Damodaran on Valuation, -r' Edition, New Jersey: John Wiley & Sons, Inc., 2006. 83 The 19971etter has been attached to every subsequent letter to shareholders in the company's Annual Report. 51 Further, in his 2004 letter to shareholders, he names free cash flow per share "our most important financial measure." In fact, Mr. Bezos explains that cash flow is more important than book earnings since "earnings don't directly translate into cash flows, and shares are worth only the present value of their future cash flows, not the present value of their future earnings. Future earnings are a component-but not the only important component-of future cash flow per share. Working capital and capital expenditures are also important, as is future share dilution."84 B. OCF For One Period Cash Flow This section provides an example of how OCF is applied to value a single future cash flow. It introduces the concepts of present value and discount rates. If an investor expects to receive a $100 cash flow at the end of the year, and the market interest rate that reflects the "risk" of the $100 is 5%, then that cash flow is worth only $95.24 today (at the beginning of the year). There is some risk that she may not receive her promised $100; therefore, she would only trade off less today for the promise of more in the future. Notice that she could invest the $95.24 today at 5% interest, and have $100 at the end of the year. The "discount rate" (like the 5% used above) should reflect the risk of the investment. 85 If an investment is riskier the discount rate is generally higher. A bank account earning a 5% interest rate may be relatively safe because an investor knows at the end of the year she could expect to earn about 5%, 86 but the expected return on an 84 2004 Amazon Annual Report. This risk {and discount rate) is often assessed by considering the required retum on comparable alternative investments, and is why a discount rate is often referred to as an "opportunity cost of capital." "9Pportunity cost" is the benefit that must be foregone as a result of choosing an alternative. 86 Assuming she has invested with a creditworthy bank. 85 52 investment in her college-age daughter's start-up internet company may be less certain-it could be a huge success or it could be a huge failure. As such, an expected $100 dividend from her daughter at the end of the year will be worth less than $95.24 today (i.e., the discount rate would be higher). The exact methods for estimating discount rates can be complex, but generally, the greater the risk (i.e., uncertainty) of an investment, the higher the discount rate. The return for a given level of risk is, however, constrained by competition in capital markets for investor dollars and investment projects.87 The simplest discounted cash flow formula, assuming one payoff in one year's time, can be written as: PVo = CF,/(1 + r) where: PVo = CF 1 r= = Present value (today) Cash flow at end of year 1 \ Discount rate By using this formula, if I have an estimate of the expected cash flow at the end ofthe year (e.g., $100}, and I have an estimate ofthe discount rate (e.g., 5%}, I can estimate the market value of the investment ($95.24 87 =$100 divided by 1.05). Different methods have been developed to estimate appropriate discount rates. These methods include, for example, the weighted average cost of capital ("WACC"), which is calculated as a company's weighted average of its cost of debt and cost of equity. Since the cost of equity is not an explicit out-ofpocket cost (like interest expense) the cost of equity capital is often calculated using the capital asset pricing model ("CAPM"). For a detailed discussion of discount rates, WACC, and CAPM, see any introductory corporate finance textbook such as Brealey. Meyers and Allen, Principles of Corporate Finance, if' Edition, 2008, Chapter 10. 53 C. Internal Rate of Return Since DCF is a mathematical formula, it can be rearranged to solve for any of the variables. As an example, if I know what arm's length parties pay for an asset, and I know the expected cash flow, I can estimate the discount rate implicit in its calculation. Expressed as a formula: r = (CF1/ PVo) - 1 Using the example above, if the cash flow is $100, and the asset value is $95.24, then I can infer that the discount rate is 5% (i.e., $100/$95.24 minus 1). This rate is often referred to as the "internal rate of return" (IRR) and is the discount rate that sets future cash flow equal to present value. D. DCF For More Than One Period Although the example above assumes that cash flows occur in only one year, the model also works for cash flows occurring over many years. The formula is just an expansion of the one provided above. That is, PV0 =CF1/(1 + r) + CF2/(1 + r)2 + ... CF,J(1 + r)n, where "n" equals the number of years to be discounted. As an example, the present value of an investment expected to generate $100 at the end of year 1 and at the end of year 2, given a 5% discount rate, would be $185.94. The first year cash flow is discounted to $95.24 (as in the example above), and the second year cash flow is worth $90.70 today (which is equal to $100/1.1025).88 Notice that the second cash flow is discounted more than the first cash flow (i.e., $100 to be received in year 2 is discounted by 9.3% of the expected $100 cash flow, while the $100 88 1.1025 is the 5% discount rate raised to the second power (1.1025 = 1.05"2). 54 to be received in year 1 is discounted by only 4.8%). The more distant cash flow is riskier, and therefore worth less today on a present value basis because of both the extra distance in time and the extra risk. Companies often forecast profits or cash flows over a fixed period of time (e.g., a five-year budget forecast}, but would normally expect their operations to continue after that period. If a company's cash flows are expected to grow at a steady rate after some point in the future, then a simplified DCF formula can be used to estimate value at that point. The year in which expected growth in cash flow becomes steady is sometimes termed the "terminal year" (TV) in a DCF model.89 The present value of all expected cash flows after the terminal year (i.e., stable growth indefinitely) is equal to PV0 = CF,/(r- g), where the variables are as defined above, and "g" is equal to the expected growth rate in cash flows. Terminal year assumptions are often built into DCF models since companies generany·expect to generate cash flow indefinitely,90 but it would be impractical to develop a spreadsheet that discounted individual year cash flows forever. At some point, simplifying assumptions can be made about steady growth in expected cash flow (e.g., grow at the rate of the economy generally); then, the simplified formula using the terminal year approach can be used. 89 For example, see Laro and Pratt, page 187. Brealey, Myers and Allen call the same concept the "horizon value"; see page 104. · 90 Businesses are generally valued as if they operate forever; therefore, forecasting cash flows into perpetuity makes sense for valuation purposes. Of course, cash flows forecasted to occur in the distant future should be discounted heavily. Businesses may be acquired, but an estimate of the value of business at the time of acquisition is the present value of the then-future cash flows. Consequently, value today can still be based on the present value of cash flows into perpetuity. Companies may also go bankrupt, but in this case there was no indication that Amazon expected bankruptcy. 55 E. Using DCF to Value Existing Assets The DCF method relies on estimates of expected cash now, not accounting income. 91 First, book net income does not represent the real inflows and outflows of cash necessary to run a business (i.e., money that investors can put in their pockets). For instance, accounting net income includes a deduction for depreciation expense, which is not a cash flow at all, and excludes a deduction for a capital expenditure in the year incurred, which does represent an outlay of cash. Accounting net income is typically converted to cash flow by adding back any depreciation (and amortization) expense, deducting capital expenditures, and deducting any investments in net working capital (e.g., net increases in accounts receivables). 92 Second, using cash flow rather than accounting profits ensures that a DCF result represents the value of existing assets only. The goal of DCF is to value existing assets (tangible and intangible), and therefore must exclude the value of a company's future investments which may have a claim on some of the company's future profits. DCF accomplishes this by deducting expected future investments (e.g., capital expenditures, increases in working capital, R&D expense) in estimating cash flow. 93 Here is an example. Assume the same investment opportunity above that generated $100 and used a discount rate of 5%. The value of the investment was $95.24. Suppose that the investor has the identical investment opportunity-that is, the 91 For example, see Brealey, Myers and Allen, page 143. The growth in net working capital (e.g., current assets less non-interest bearing current liabilities) represents cash which is retained in, and necessary to the operations of, a business. 93 Consider the alternative of discounting accounting profits rather than cash flows. In this case, the present value would represent the benefits of all investments (e.g., profrts from the expansion of a manufacturing plant), but not all the cost of the investments (e.g., the cost of the plant expansion). Estimating future cash flows by deducting from accounting profits some "routine• retum on future investment is also impractical. As discussed below, since the expected return attributable to a future investment generally equals the investment's cost, the simple answer is to deduct the cost of the investment in deriving cash flow. 92 56 investor can expect to earn $100 in year 1 and has a discount rate of 5°/o-but can also make an investment of $90 during year 1 in return for an expected $94.50 in year 2. Now, the investments (the one today and the one next year) have the following cash pay-outs: Cash inflow Cash outflow Net cash flow PVQ c.& CF2 ?? $100 $90 $10 $94.50 $0 $94.50 What is the value of the investment today? That is to say, what is the value of an investment opportunity which is expected to return $100 in year 1, $94.50 in year 2, but requires an additional investment of $90 during year 1? The table below shows that the value is still $95.24. PV12 Cash inflow Cash outflow Net cash flow Present value94 $95.23 Cf1 CF2 $100 $90 $10 $94.50 $0 $94.50 $9.52 $85.71 The present value today of this two-year cash flow has not changed from the value of the simple one year cash flow. 95 In this example, the $90 investment opportunity has a net present value (in year 1) of zero. That is to say, by investing $90 in year 1 and earning $94.50 one year later, the net present value of the investment is 94 The present values of the cash flows are calculated by discounting CF 1 at 5% (i.e., 1.05), and CF2 at the same 5% rate, but compounded for two periods (i.e., 1.051\2 = 1.1 025). 95 Slight difference due to rounding. 57 zero and does not add to the value of assets in place today. 96 By deducting next year's investment opportunity, I have excluded from my valuation of the existing assets the future value of the new investment opportunity. In other words, the $90 investment opportunity must be deducted in deriving cash flow, otherwise the present value would include only the future investment benefit (i.e., $94.50), but not the cost. Of course, I could achieve the same result of valuing only existing assets by excluding the benefit (the $94.50) of the $90 investment and the $90 investment from the cash flows altogether. While this procedure may work for this simple example, it would be impractical to apply in practice. First, the timing of the benefits would be impossible to determine (i.e., when does the profit from a particular investment show up on the income statement), and therefore would be difficult to exclude from cash inflows. Second, as explained below, the expected value of future investments is generally worth no more than cost since the investments have not yet been made. So, the simple solution is to deduct future investment cost in deriving cash flows. In the example above the future investment of $90 was expected to earn its cost of capital (i.e., an IRR of 5%), so the value of the investment was just equal to its cost. Consequently, excluding the investment and its $94.50 return from cash flows did not have an effect on the $95.23 present value. However, if expected profits on future investments were greater than the cost of the investment (including capital cost), then the expected excess profits (i.e., profits over and above capital costs) must be attributable to assets in place today. In competitive capital markets, investors seeking returns greater than their costs of capital would drive up prices, thus equating the 96 The net present value is the present value less the investment. So, in this case, the present value is $94.50/1.05 = $90 minus the investment of $90, which yields zero. 58 - expected return on investment with the cost of capital. An investor could only expect to generate returns greater than market returns if it possessed some specialized knowledge, ability, legal protection, or similar factors that allowed it to expect to generate more from use of assets than the market can. Those "intangibles" are not inherent in the investment opportunity; instead, such intangibles are part of the investor's collection of assets today. DCF correctly estimates that value by deducting the cost of future investments in deriving cash flow. This is illustrated in the following example. Suppose that as a result of the investor's experience with the first investment (which is expected to generate $100 in year 1), she now thinks that her investment of $90 made during year 1 will yield an expected cash flow in year 2 of $110. She knows that she possesses some skill today (experience with capital investments, R&D, something else) which permits her to expect higher earnings on future investments. The new cash flow scenario and present value would look like the following: PVQ Cash inflow Cash outflow Net cash flow Present value97 $109.29 CF1 CFz $100 $90 $10 $110 $0 $110 $9.52 $99.77 The present value of these new investment opportunities is $109.29. The higher present value (i.e., $109.29 is greater than $95.23 in the prior example) is due to the expected higher earnings on the year 1 investment of $90. In fact, that investment is 97 The present values of the cash flows are calculated by discounting CF 1 at 5% (i.e.,1.05), and CF 2 at the same 5% rate, but compounded for two periods (i.e., 1.05"2 = 1.1025). 59 expected to earn about 22% (and yield $110). 98 Since this rate is much greater than the 5% discount rate (i.e., the opportunity cost of capital that could be earned on alternative investments with the same risk), the investment contributes to existing value. It contributes to existing value since her investment skill leads to an expectation of higher earnings that exists today. If such skill did not exist, then the forecasted earnings in year 2 would not be $110, but only $94.50. F. Pre-Tax Cash Flows DCF valuations are typically performed using after-tax cash flows. 99 The reason is that investors are concerned with cash flows that the investment will return to them. Income taxes are not income to investors, but income to the government, and therefore should be excluded from investors' calculations. Consequently, in a "typical" asset acquisition an acquirer pays an after-tax value for the asset,· and then realizes cash flow on an after-tax basis (i.e., after it pays taxes on the income generated from use of the asset). Under cost sharing, a cost share participant (the PCT Payor) can make its PCT payments as a lump sum, installment, or royalties, all of which are treated as ordinary income by the PCT Payee. Since the form of the payment is pre-tax-that is, since the PCT Payee will have to pay taxes at ordinary tax rates on the PCT payments-the present value of the PCT payments should be calculated on a pre-tax basis. In other words, in contrast to the "typical" asset acquisition in which an acquirer pays an aftertax value and realizes after tax income, a PCT Payee will realize income from its i 98 99 Using the IRR formula, ($11 0/$90) - 1 = 22.2%. Brealey, Myers and Allen, page 144. 60 valuable intangibles on a pre-tax basis, therefore it should value its cash flow stream on a pre-tax basis. An appropriate method for calculating a pre-tax value is to discount pre-tax cash flows at an after-tax discount rate. Assuming the same tax rate in every year, the present value of after-tax cash flows discounted at an after-tax discount rate and then grossed-up for the pre-tax nature of the PCT receipts is equivalent to pre-tax cash flows (e.g., after-tax cash flows grossed-up at the tax rate) discounted at an after-tax discount rate. G. Using DCF to Value Existing Intangible Assets The present value derived under a OCF represents the estimated market value (on the valuation date) of the existing operating assets of a business, including both tangible and intangible assets. 100 A company's total operating assets are equal to the sum of its tangible property (e.g., financial assets, net working capital, fixed assets) and intangible property (e.g., patents, trademarks, going concern). Therefore, I can . estimate the value of a company's intangibles by deducting a fair market value estimate of tangible property. In many cases, especially with respect to cash or short-term net working capital, tangible property book values can be a reasonable estimate of market values. The next section of this report applies the DCF method to estimate the value of the payments that AEHT would have made at arm's length in return for the IP transferred to it by the License and Assignment Agreements. 100 Since a DCF estimates the market value of operating assets, any non-operating assets .(e.g., excess cash, marketable securities, equity investments} should be added to the DCF value to derive the total value of a company. 61 VII. Application of DCF to IP Involved in Transfer of EU Website Business Effective January 1, 2005, AT and AEHT signed the License and Assignment Agreements under which AT transferred the use of valuable intangible assets to AEHT. The IRS has asked me to estimate the arm's length value of this transferred IP. In my analysis, I determine the value the intangible assets transferred to AEHT under the License and Assignment agreements as of January 1, 2005. Cash flows relating to AEHT's cost sharing payments began in 2005, but the bulk of AEHT's cash flows started on the Business Transfer Date, April 30, 2006. By using a January 1, 2005 valuation date, I am assuming that, when the parties signed the License and Assignment agreements in 2005, they were expecting the bulk of AEHT's cash flows to commence approximately when they did. 1 ~ 1 This approach is reasonable in my opinion and significantly simplifies the analysis since it is not necessary to conduct a separate analysis of the Assigned IP value from the period January 1, 2005 to April 30, 2006. 102 Valuing IP like that transferred by AT is similar to the examples given above in Section VI but with some added complexity. First, one has to forecast the cash flows that AEHT is expected to earn from exploitation of the IP transferred by AT-and reasonably forecasting future cash flows can be difficult. Second, one needs to estimate an appropriate discount rate to apply to those cash flows to reduce them to present value. Cash flows generated by businesses are generally riskier than cash flows earned from a bank account (like the 5% used in my examples above); therefore, 101 The Assignment Agreement's definition of Business Transfer Date indicated that this date was "expected to occur during 20os·. 102 As discussed above, Deloitte made an adjustment to its value calculation for this period using a complex method involving Waterstones (a third party), and various assumptions. Under the method I employ the value of intangibles attributable to this Interim period between the License Agreement and Assignment Agreement dates is simply equal to the estimated cash flows recorded by AIS and AIM, not AEHT, during the period. 62 the discount rate used for a business valuation is typically higher than a bank savings rate. Finally, by discounting cash flows one estimates the value of all operating assets, but I want to value only the intangible assets transferred by AT to AEHT. At the time of the transfer, AEHT was a brand-new entity and therefore clearly did not have preexisting intangibles of its own. Consequently, I can estimate the value of the transferred intangible assets by subtracting from total value the value of the tangible assets involved in the European website business. Table 4 summarizes this analysis. A. Cash Flows 1. Profit Forecasts As described above, accounting profits are not equal to cash flow, but accounting profits are an important component of cash flow. I use Deloitte's projected operating profits for the years 2005 to 2011 in estimating total cash flow. I make two important adjustments to Deloitte's projections. First, Deloitte did not deduct IDCs-AEHrs cost share payments-from profit. Since AEHT will make cost sharing payments under the CSA, AEHrs expected future profits from exploitation of the transferred IP will be reduced by these payments. Consequently, it makes sense to reduce AEHT's forecasted operating profits by the level of forecasted cost sharing payments. I have used Deloitte's estimates of these payments that were included in the financial model developed for the Deloitte Report. 103 Forecasted income statements, including the deduction for cost sharing payments, are shown on lines 401 to 407 of Table 4. 103 Spreadsheet provided in response to lOR 1-11. 63 The Deloitte forecasts include substantial deductions for AEHT's payments to the EU service affiliates (through LuxOps) (see Table 4,1ines 404 and 422 to 426). I understand that the EU service affiliates are reimbursed at their costs plus a markup. As shown on Table 4, lines 422 to 426, AEHT's total operating costs other than these intercompany payments (i.e., AEHT's "value-added" costs) equal at most 3.2% of total forecasted revenues over the forecast period. Since the intercompany payments to the EU service affiliates are deducted in the projected income statements, the profit remaining consists of profits eamed in Luxembourg by AEHT (and LuxOps) only. Therefore, the profits I use in my analysis are the combined profrts of AEHT and LuxOps, but after AEHT's payments under the cost sharing agreement. This is shown graphically below: ••~---··-----------------------•• I : I I AEHT : LuxOps . ! DCF->:I I I :' I : I t t I : I I I ~------------ ______________ ! eu SeM<:eAffiliales The second adjustment I have made to the Oeloitte forecasts is to "zero out" all profits in 2005 and January to April 2006. (See the 2005 and 2006 columns of the DCF calculations on Table 4.) I understand that prior to the Business Transfer Date of April 64 - 30, 2006, AIS and AIM continued to record income and cash flows from the European website business. Consequently, it would be inappropriate to include in my forecasted AEHT cash flow any income or cash flow from this period, other than AEHT's costsharing payments. 2. Cash Adjustments For DCF valuation purposes I am interested in cash flows, not accounting profits. As discussed above, accounting profits are typically converted to cash flow by adding back.any depreciation (and amortization) expense, deducting capital expenditures, and deducting any investments in net wori of Table 4a is the forecasted 2008 P&l for the European website business on an accrual basis. 105 Columns to show adjustments to the accrual accounting conventions based on 104 105 See page 27 of Amazon's 2004 Form 10-K. Footnote omitted. 1elected to use 2008 data in this example, but data from any other year also would have sufficed. 65 actual balance sheet changes from 2007 to 2008 (e.g., accounts receivables, accounts payables) to derive a cash basis P&L in column . The operating profit margin calculated from the accrual basis P&L is 5.6% (line 408), but the cash basis P&L has an operating profrt margin of 9.2%. The difference in these margins is a quantification of Amazon's ability to collect cash early, pay vendors late, and manage inventory levels efficiently. On Table 4, lines 409 to 411 show the cash flow components which I have incorporated into my analysis. Details of these calculations are explained in Appendix A. The sum of these cash flow amounts (sum of lines 409 to 411) is deducted from operating profits to convert AEHT forecasted profit into forecasted cash flows. Notice that, due to AEHT's favorable net working capital projections, the cash flows shown in line 412 are considerably larger than the operating profits in line 407 after the first year. 3. Growth Rate I have made another adjustment to AEHrs forecasted cash flow data. Amazon provided Deloitte with AEHrs forecasted profits through 2011, but AEHT would have expected to continue operating after this year. Therefore, I have estimated cash flows after 2011 and included them in my calculations. 106 To estimate these cash flows, I use a 3.8% terminal year growth rate in 2011 (i.e., cash flows after 2011 are assumed to equal 2011 cash flows grown at 3.8%). On Table B located in Appendix B, I calculate this 3.8% growth rate using forecasts as of October 2004 as provided by Consensus Economics Inc., a leading macroeconomic survey company based in London. This 3.8% rate approximates the nominal gross 106 Calculations for years after 2011 are condensed into the column headed "Terminal Year." The use of terminal years in DCF analyses is discussed above in Section VI. 66 - domestic product (GOP) growth rate for the European market from 2010 to 2014. GOP is the market value of goods and services produced domestically on an annual basis. 107 The change in nominal GOP reflects both "real" growth (i.e., increases in output) and inflationary growth. The chart below shows that, for Amazon's forecast period 2005-2011, AEHT's compounded annual growth rate ("CAGR") in operating profits was 35.9%. 108 Its growth rate in profit from 2010 to 2011 was 26.5%. Implicit in the projected growth during this period is the rapid growth of online shopping in Europe due to the increased acceptance and adoption of this new retail channel by consumers. I would not expect these high growth rates to be sustainable in the long run. Rather, once online shopping matures into a widely accepted retail channel, I would expect growth rates to enter a lower, more stable state. Therefore, I believe it is reasonable to expect that the long term growth rate would be much lower than the projected growth rates from 2005~2011. In my opinion, growth at the rate of nominal GOP is a good estimate for Amazon's expected growth in sales once the rate of internet sales no longer grows faster than the rate of the economy generally. Note that this may not happen abruptly in 2011-2012. If I had assumed a slower transition in growth rates to the nominal GOP growth rate, the OCF value would have been higher. 107 See Gwartney, James D. and Richard L. Stroup, Economics: Public and Private Choice, Seventh Edition, The Dryden Press, 1995, page 144. . 108 This is the growth rate from 2004 to 2011, as calculated on line 119 of Table 1. 67 Chart& Amazon EU Website Business Forecasted Year over Year% Change In Revenue 2005·2015 35.0% 30.0% ... G.....U. Rates from Amazon's Forecests Growtll - fR>m CoMensua Economice Forecast 25.0% f 20.0% ~ 15.0% # \ \ ···········---··-·--------------- 10.0% i\ ------------;-~==~==~==~-- 5.0% 0.0% 2005 2008 2007 2008 2009 2010 2011 2012 2013 2014 2015 Year B. Discount Rate As discussed above, a discount rate should reflect the risk of an investment. The term "discount rate" is often used interchangeably with "weighted average cost of capital" ("WACC"), "opportunity cost of capital," "cost of capital," or "hurdle rate." Deloitte used Amazon's WACC of 13% as provided by Amazon. 109 In order to verify the reasonableness of Deloitte's use of a 13% rate, I calculated Amazon's WACC as of December 31, 2004. Table 5 shows this analysis. My calculations indicate that an 18% cost of capital is reasonable for Amazon, which is significantly higher than the 13% rate used by Deloitte. 110 A higher cost of capital (i.e., discount rate) produces a lower 109 Deloitte report, Appendix 9 As shown in Table 5, I use the capital asset pricing model rcAPM") to estimate Amazon's cost of equity capital. Of the available methods for estimating equity cost, the CAPM is widely used due to its simplicity and availability of data inputs. Under CAPM, a company's cost of capital varies in direct proportion to beta, a measure of a stock return's variability relative to the returns for all stocks. I believe that CAPM provides a reliable estimate of Amazon's equity cost in this case. For a more complete discussion of CAPM, see, for example, Brealey, Meyers and Allen, pages 213- 222 •. 110 68 present value of cash flows. 111 Consequently, based on my own calculations and to reflect the risk of AEHrs anticipated operations in the European market, I use an 18% discount rate in my calculation of the DCF. Further, I verified that the 18% rate is reasonable by comparing it to different WACCs prepared and published by Ibbotson Associates ("Ibbotson") in its Cost of Capital Quarterly 2004 Yearbook (which analyzes data through December 2004 ). 112 Ibbotson provides cost of capital data by Standard Industrial Classification ("SIC") code in its annual Yearbook. For SIC code 5961-catalog and mail-order houses-lbbotson calculated the costs of capital for 23 companies and presents median percentages, which varied depending on the exact methodology used to estimate the WACC. These costs of capital had a low of 10.35% and a high of 22.33%. 113 The 18% rate falls within this range of rates. Table 41ine 417, shows that by discounting the forecasted cash flows at the 18% discount rate, 114 I derive a present value of $3,603.4 million. C. Estimated Intangible Value The $3,603.4 million present value represents cash flows available on all operating assets, including tangible and intangible assets. In order to estimate the value of intangible assets only, I deduct the book value of AEHT's net tangible assets on 111 The valuation result is sensitiVe to the discount rate. Had I used Oeloitte's 13% rate, my estimated intangible value would have been 70% higher. 112 Ibbotson is a widely used and respected source. Its cost of capital data are available at https:l/secure.momingstar.netlmstarstore!Store_IBSearch.aspx. 113 The different calculation methodologies include CAPM, CAPM plus a small company premium, the 3Factor Fama-French model, 1-stage discounted cash flow, and 3-stage discounted cash flow. Definitions and methodologies are discussed in detail in the Yearbook cited above. 114 1have discounted the cash flows assuming that they are received on average about 55% of the way through the year. This factor is greater than the more typical half-year convention of 50% due to the seasonality of Amazon's sales. See Table C in Appendix C, which calculates the 55% period factor. 69 line 418. These net tangible assets are shown on Table A-1 located in Appendix A. They consist primarily of negative working capital, cash, and marketable securities. Since the book value of such assets (e.g., cash) typically equals market value, I believe the -$1.8 million book value of these assets is a good estimate of market value. As shown on line 419, an intangible value of $3,605.1 million is implied after deducting the $1.8 million value of tangible assets. 115 VIII. Tests of Reasonableness In order to test the reasonableness of the results derived under the DCF method, I also apply a CUT method and a market value method, as described below. A. CUT Method Using Merchants@ As discussed above, Amazon offers programs that enable third parties to sell their products on Amazon's websites. These programs allow customers to shop for these merchants' products using Amazon's features and technology, and allow customers to complete transactions with several different vendors in a single checkout process. Amazon is not the seller of record for these transactions; rather, Amazon earns fixed fees, sales commissions, and possibly other fees from the vendors. In Appendix D I provide a summary of Amazon's standard agreement for this program. 115 Note that there is no need to deduct returns on future tangible property investments since such future investments have already been deducted in deriving cash flow (e.g., capital expenditures). As discussed in Section VI. E. above, any expected premium return over the oppOrtunity cost of capital on future investments is attributable to some intangible quality present on the valuation date; otherwise, why would the investor expect a premium return? Consequently, I have deducted the returns to future tangible property investments through my deduction from cash flows of increases in net working capital and fixed capital expenditures. I have not deducted from future cash flows the return on existing tangible property investments. That is why I deduct the current estimated market value of net tangible property of -$1.8 million to derive Intangible value. 70 As described by Deloitte, the third party sellers channel allows Amazon to offer the following advantages to these third parties: 116 Strong global brand recognition; Web merchandising, including patented search technologies, personalization, patented 1-click ordering, editorial content and customer reviews, and data-driven automation; Technology infrastructure; Customer service, including a global 24-hour customer support network, customer self-service technology, and proprietary e-commerce call center technology; Global fulfillment capabilities fully integrated to a website; and Customer traffic and acquisition involving Amazon's millions of customers and its Associates Program. Under the License and Assignment Agreements, AEHT licenses these very same intangibles; that is, use of Ars strong global brand, customer traffic, technology infrastructure, search technologies, etc. Amazon possessed valuable intangible property which third parties were willing to pay to use. I have used the fees paid by the third parties to estimate arm's length commission rates that AEHT would have paid under its intercompany agreements had it been an independent party. I then use these implied arm's length commission rates to derive an alternate estimate of the value of the transferred IP. 1. Deloitte February 1, 2006 Memo In a memo dated February 1, 2006, Deloitte used a similar method to value certain technology intangibles owned by AT and A9 with respect to the website www.amazon.co.jp ("AIS JP website business"). In Detoitte's words, the purpose was to "present the analysis of the Technology value belonging to the Amazon U.S. Technology Group, and the computation of AIS's economic income attributable to the 116 Deloitte report, page 8. 71 AIS JP Business, taking into account the contributory value of the Technology." 117 Deloitte concluded that ''when the continued material and significant contribution of the Technology is taken into account, the AIS JP Website Business experienced significant economic losses." 118 Deloitte came to this conclusion by evaluating fees paid by Target Corporation to Amazon under an arrangement which allowed Target to use Amazon's a-commerce platform and technology, which were "substantially the same intangible assets as those identified as the Technology provided to AIS by [AT and A9]." 119 Deloitte concluded that estimates of the implied royalty rate in the Target agreement ranged from 9.3% to 12.1% with an average rate of 10.6%. When a rate of 10.5% on sales120 was deducted from the profits of the AIS JP website business, the AIS JP website business showed significant losses. Unlike AT's intercompany arrangements with AEHT, the estimated Target royalty rate was for use of AT's technology only, and not the valuable Amazon brand and website addresses. My analysis of the Merchants@ program, described below, includes the technology and brand and other marketing intangibles transferred under the License and Assignment Agreements. Thus, Deloitte's estimate of an arm's length royalty rate of 10.5% should be a minimum estimate of the rate implied by the Merchants@ program. 117 Deloitte February 1, 2006 memo, page 2. 1181bid. 119 120 Deloitte February 1, 2006 memo, page 7. Deloitte made adjustments to Target's implied rates to account for different stages of operation. 72 2. Merchants@ Analysis This analysis estimates the value of the IP transferred to AEHT under the License and Assignment Agreements by using the commission rates paid by third parties for use of the same or similar intangibles. To conduct this analysis, I was provided with a list of the top three merchants participating in the Merchants@ program in the UK, Germany, and France during each of the years from 2005 to 2007. 121 I was also provided with total sales of these merchants through the Merchants@ program, and the total commissions and fees retained by Amazon by product category. 122 Lastly, I was also provided with income statements for Amazon's European Merchants@ business for the years 2005 through 2007. 123 I used these data to calculate a weighted average net commission rate (after adjustments) across all product categories, the three markets (UK, Germany, and France), and the years from 2005 to 2007. This analysis is summarized on Table E of Appendix E, and concludes that 12.5% is a reasonable estimate of the commission rate AEHT would pay to AT for use of the IP conveyed under the intercompany agreements. Tables E-1 to E-3 summarize the results for the Merchants@ programs in the UK, German, and French markets, respectively, and Table E-4 shows results for the Luxembourg legal entities that incurred costs in support of the Merchants@ program. 124 I derive the 12.5% commission rate using the following steps. 121 Taxpayer response to lOR 1-66. 1bid. 123 Taxpayer response to lOR 1-64. 124 Tables E-1 to E-3 analyze the results for two businesses responsible for the Merchants@ business during this three-year period. Amazon International Marketplace ("AIM•) ran the business at the beginning of this period and was replaced by Amazon Services Europe ("ASE") by the end of the period. The "A" tables combine the results for these two entities, which are presented in "8" and "C" support tables, respectively (e.g., Table E-1A for the UK market combines the results from Table E-18 for AIM-UK and the results for ASE-UK from Table E-1C). 122 73 1) I calculate the implied commission rates paid by the top three merchants in each rrtarket (UK, Germany, France) over the period 2005-2007. Using the UK market as an example, in 2007 the three top sellers in the UK Merchants@ program were Tower USA, The Book Depository, and Pixmania, which had total sales through the Amazon website of £46.7 million and paid commissions to Amazon of £5.7 million. The weighted average commission rate across the three vendors was 12.3% (Table E-1, line 119).125 2) I calculate the Merchants@ implied total sales made through Amazon (i.e., the amount on which third party participants paid a commission to Amazon) by dividing total commission revenue by the implied commission rate. For the UK in 2007, I used the 12.3% commission rate to imply total merchant sales of $758.6 million (Table E-1, line 123). ' r. 3) · The value of the services provided to third party vendors in the Merchants@ program was not equal simply to the gross commission rate calculated in step 1 above. In addition to commission revenue, Amazon (e.g., AIM-UK, ASE-UK) reported other revenues from Merchants@ vendors, and incurred costs in support of the program. In the standard vendor agreement, 126 fees payable to Amazon included a commission fee (defined in the agreement as a "referral fee"), and a subscription fee payable monthly or a variable closing fee payable per item sold. 127 These fees increase the effective commission rates paid by third party vendors to Amazon. Amazon also incurred costs in support of the program (e.g., Amazon bore the risk of credit card fraud). Since, unlike the third party vendors, AEHT would bear these costs, I made an adjustment to the gross effective commission income to reduce it for the costs to be incurred by AEHT. Therefore, in order to adjust the commission rate for 1) the increase in rate attributable to additional Merchants@ revenues recorded by Amazon, and 2) the decrease in rate attributable to costs to be incurred by AEHT in support of the program, I calculated Amazon's (UK, Germany, France) pre-tax income as a percentage of total estimated vendor sales (from step 2). As an example using the UK market, ASE-UK (the legal entity responsible for the Merchants@ program in the UK in 2007) reported 2007 pretax income of $102.5 million (Table E-1, line 124), which reflected significant revenues in addition to commissions, including "Closing Fee Revenue" and "Other Service Revenue," 125 As shown on Table E, for all markets I calculate the weighted average commission rate paid by the top three merchants in each market at 13.0% over this three-year period (Table E, line 109). 126 See, for example, Amazon Services Europe Business Solutions Agreement, Amazon.co.uk, last u~ated January 5, 2010. · 1 See the "Selling on Amazon Fee Schedule" as part of the standard agreement 74 and costs incurred by ASE-UK in support of the program (primarily administrative ). 128 ASE-UK's 2007 pre-tax income was equal to 13.5% of estimated Merchants@ vendor sales (Table E-1, line 125). Notice that this pretax income was greater than the implied commission rate of 12.3% calculated from the top three merchants. This is because Amazon was entitled, through its agreements with third party merchants, to revenue sources other than commissions, and had only limited expenses. 4) I made two additional adjustments to the rates calculated in step 3 above. First, I have applied a 5% profit markup to the value-added costs incurred by the Amazon entities in su~fort of the Merchants@ program, and deducted this profit from pre-tax income. 1 The 5% markup reflects a routine return on AEHT's costs130 and thus reflects an amount which would not be payable to an independent party as part of a commission for use of valuable IP. For the UK market in 2007, the 5% profit markup was equal to about $1.0 million (Table E-1, line 130), and reduced the net commission rate from 13.5% to 13.4% (see line 132). Second, I made an adjustment to the third party commission rates for the cost sharing payments AEHT would make under its intercompany CSA. Third party vendors do not incur such costs; therefore, I needed to adjust the commission _rate payable by AEHT for this difference. Further, I presume that the cost ' sharing payments support, among other things, the revenues expected to be earned by AEHT in the Merchants@ program. As in my DCF model, I use Deloitte's estimated cost sharing payments. Using the UK market as an example, I deduct the 1.9% cost sharing payment estimate from the 13.4% commission rate before cost sharing payments to derive a 2007 net commission rate of 11.4% (Table E-1, line 134). 5) I sum the analysis discussed above across all markets to derive a weighted average net commission rate for the years 2005 through 2007. This rate is equal to 12.5%, as shown on Table E, line 121. In order to compare the 12.5% net commission rate to the $3,605.1 million value derived from the DCF method, I convert the net commission rate to present value on Table 6. Using the 18% discount rate and the same forecasted revenues, I calculate a 128 Table E-1A summarizes the income statements of AIM-UK and ASE-UK over the period 2005-2007. Mark-up fees paid by AEHT for various services provided by affiliates ranged from 3% to 5%. I use the highest, 5% rate in this analysis. 130 This includes operating expenses and intercompany expenses. 129 75 present value of $6,139.4 million (Table 6, line 608), which is well above the results of my DCF method. 131 Because AEHT differs from the retailers in the Merchants@ program, and because of the imputations necessary to perform my calculations, in my opinion the analysis based on the Merchants@ program is not as reliable as the DCF method in this instance. Therefore I conclude that the results from the DCF method, $3,605.1 million, is a more reliable measure of the value of the intangibles transferred to AEHT under the License and Assignment Agreements. However, my analysis of the Merchants@ program demonstrates that arm's length parties placed considerable value on the same types of intangible property that were transferred to AEHT under the License and Assignment Agreements. Based on the commission rates third party vendors paid to Amazon for use of intangibles that were the same or similar to the intangibles transferred to AEHT under the intercompany agreements, and after adjustments to account for differences between the third party vendors and AEHT, I conclude that this Merchants@ program analysis confirms the reasonableness of the value derived from my primary DCF method. B. Market Value Analysis As another test of the reasonableness of my primary method, I estimate the value of the transferred IP by apportioning Amazon's implied market value of intangibles, derived from Amazon's total market value, to AEHT based on relative sales levels. In effect, this method is premised on the assumption that the value of Amazon's 131 In order to account for the period from 12/31/2004 (the date of the intercompany agreements) to 04130/2006 (the Business Transfer date) when AEHT was not entitled to profits from the EU Website Business, but was responsible for making cost sharing payments, I have deducted from the present value of net commission income AEHrs cost sharing payments in 2005 and through April 30, 2006. 76 - valuable intangible property is the same for each unit of European sales as it is for Amazon's consolidated operations. To the extent that AT made available to AEHT the full complement of IP used to generate consolidated Amazon revenues, then this method provides a reasonable estimate of the value of intangibles conveyed to AEHT in the License and Assignment Agreements. This market value method is similar to the well-documented approach in the valuation literature known as a "market multiple approach."132 This method is based on the concept that a company's market value of debt and equity can be used to estimate the value of a company's underlying assets, including intangible assets. A company's balance sheet records assets, liabilities and equity at book value, which typically reflects historic cost. Because of the "balance sheet equation," assets must equal the sum of liabilities and equity. That is, Assets (A) = Liabilities (L) + Equity (E) In most cases, it may be difficult to determine the market value of each individual asset on a company's balance sheet. In fact, many intangible assets (e.g., going concern value, trademarks, installed base of customers, technology) are not even recorded. However, if a company's stock is publicly traded, the market value of the firm's equity is readily available. If the company holds interest-bearing debt, the market values for those instruments may also be available. 133 Since the left-hand side of a company's balance sheet must equal the right-hand side, the market value of the firm's 132 For an example of a description of this method in the valuation literature, see Damodaran, A. Damodaran on Valuation. Hoboken NJ: John Wiley & Sons, Inc., 2006. 133 Depending on the term of the debt and other factors, the book value of debt may provide a reasonable estimate of its market value. 77 assets must equal the market value of the firm's equity plus the market value of its debt. 134 Notice that if I assume that the market value of debt is equal to the book value of debt, any market value "premium" must equal the difference between equity market value and equity book value. Assuming further that net working capital and fixed assets are represented on the balance sheet at approximately current fair market value, then this premium plus the value of any booked intangibles (e.g., goodwill) must equal the market value of those intangibles. I use these principles and assumptions in my analysis to value the intangible assets of Amazon. The steps involved in this analysis are outlined below and shown on Table 7. I estimate the market value of the intangibles transferred under the License and Assignment Agreements, as of December 31, 2004, using the trailing 60-day price for Amazon's stock to calculate its market value of equity. After deducting the book value of equity and adding booked intangibles, I calculate that Amazon's consolidated market value of intangibles in 2004 was $16,622.8 million. 135 Next, I apportioned this value to the intangibles conveyed to AEHT. I do so using the ratio of EU website 2004 revenues to consolidated revenues. In 2004, EU website revenues represented 32.5% of total revenues. Revenue is a reasonable basis on which to apportion intangible value to the extent that every unit of European sales captures the same intangible return as Amazon's consolidated sales. In his 1997 letter 134 1n order to account for non-interest-bearing liabilities, "assets" in this calculation includes all net working capital, which equals current assets less any non-interest-bearing liabilities. 135 Market values represent the present value of expected dividends and stock appreciation available to shareholders after corporate level tax. In order to be consistent with my DCF method and Deloitte's unspecified method, I would need to calculate a pre-corporate-level-tax value. For simplicity, however, I have not grossed up the market value to a pre-tax amount. 78 to shareholders, Jeff Bezos writes, "We first measure ourselves in terms of the metrics most indicative of our market leadership: customer and revenue growth, the degree to which our customers continue to purchase from us on a repeat basis, and the strength of our brand." These metrics express themselves in sales levels. In Amazon's industry, where revenue growth is a measure of performance, it is reasonable to assume that • value can be reliably estimated based on revenues shares. The intangible value apportioned to AEHT is $5,201.9 million. 136 This value is higher than that derived under my DCF method, $3,605.1 million. Due to the assumptions necessary to apply this method, I conclude that the result from the analysis of Amazon's market value is not as reliable as the result from the DCF method in this instance. However, in my opinion the analysis of Amazon's market value provides additional support for the reasonableness of the estimate of value that results from my primary DCF method. IX. Conclusion I have two main conclusions: (1) In my opinion, the analysis in the Deloitte Report contains a number of fundamental flaws. As a result, its recommended payments for the IP transferred to AEHT by the License and Assighment Agreements are inconsistent with the arm's length standard. (2) I conclude that a reasonable estimate of the value of payments that would be in compliance with the arm's length standard is approximately $3,605.1 million. 136 With a valuation date of December 31, 2004, the allocated intangible value does not account for the fact that AEHT was not entitled to profits from the EU Website Business prior to April 30, 2006 (the Business Transfer date). Consequently, I have deducted from the allocated intangible value the present value of forecasted intangible profits which would be retained by AIS and AIM, and not recorded by AEHT (see lines 711 to 714 of Table 7). 79 Table 1 Amazon Luxembourg/AEHT Actual and Forecasted P&Ls Figures in $ millions 2001 2QQQ ~ ~ ~ Actual per External WW Flnancials [lOR 1-43] Line Luxembourg ~ ~ 101 Revenue 102 Cost of goods sold 103 Gross profit 21.2 18.6 4.5 166.7 131.8 34.9 375.6 298.9 76.7 601.0 469.2 131.7 969.1 756.9 212.2 1,559.7 1,261.7 298.0 2,252.7 1,831.4 421.2 104 Operating expense 1/ 105 Profit before IDCs 106 IDC expense 21 2.9% 107 Operating profit 13.1 (8.6) 0.6 (9.2) 81.6 (46.7} 4.9 (51.5) 143.1 (66.4) 11.0 (77.4) 157.7 (25.9) 17.5 (43.5) 160.7 51.5 28.3 23.2 204.8 93.2 45.5 47.7 258.6 162.6 65.7 96.9 108 Cumulative operating profit (9.2) (60.8) (136.1} (181.6) (158.4) (110.7) (13.8) 109 Revenue 110 Cost of goods sold 111 Gross profit 100.0% 78.6% 21.4% 100.0% 79.0% 21.0% 100.0% 79.6% 20.4% 100.0% 78.1% 21.9% 100.0% 78.1% 21.9% 100.0% 80.9% 19.1% 100.0% 81.3% 18.7% 112 Operating expense 113 Profit before IDCs 114 IDC expense 115 Operating profit 62.1% -40.7% 48.9% -28.0% 38.1% -17.7% 26.2% -4.3% 16.6% 5.3% 13.1% 6.0% 11.5% 7.2% eommonsize 2.9% 2.9% 2.9% 2.9% 2.9% 2.9% 2.9% -43.6% -30.9% -20.6% -7.2% 2.4% 3.1% 4.3% 688.0% 125.2% 60.0% 61.3% 60.9% 44.4% 458.1% 50.1% -43.8% -153.3% 105.8% 103.1% Growth rates 116 Revenue 117 Revenue (5-yr) 118 Operating profit 119 Operating profit (5-yr) 1/ 21 Includes costs and profit markups paid to UK, DE, and FR. 1998-2004 estimated to equal ratio of IOC/Revenues for 2005. Page 1 of2 Table1 Amazon Luxembourg/AEHT Actual and Forecasted P&Ls Figures in $ millions W§ 2006 2QQI ~ Forecasts (Deloitte Report, Figure 7) Line Luxemboum 2009 .2.Q.1Q 2011 Average 2005=11 Source 2,953.9 2,395.8 558.0 3,857.9 3,147.7 710.1 4,907.9 4,003.4 904.5 6,248.8 5,098.3 1,150.5 7,832.5 6,393.2 1,439.3 9,665.6 7,892.2 1,773.4 11,927.7 9,739.2 2,188.4 6,770.6 5,524.3 1,246.3 104 Operating expense 1/ 105 Profit before IDCs 2.9% 106 IDC expense 21 107 Operating profit 393.9 164.1 86.2 77.9 482.1 228.0 90.5 137.5 581.2 323.3 95.0 228.3 703.5 447.0 99.8 347.2 844.8 594.5 104.8 489.7 1,007.6 765.8 110.0 655.8 1,243.4 945.0 115.5 829.5 750.9 495.4 100.3 395.1 108 Cumulative operating profit 64.1 201.6 429.9 777.1 1,266.8 1,922.6 2,752.1 109 Revenue 110 Cost of goods sold 111 Gross profit 100.0% 81.1% 18.9% 100.0% 81.6% 18.4% 100.0% 81.6% 18.4% 100.0% 81.6% 18.4% 100.0% 81.6% 18.4% 100.0% 81.7% 18.3% 100.0% 81.7% 18.3% 112 Operating expense 113 Profit before IDCs 114 IDC expense 115 Operating profit 13.3% 5.6% 2.9% 2.6% 12.5% 5.9% 2.3% 3.6% 11.8% 6.6% 1.9% 4.7% 11.3% 7.2% 1.6% 5.6% 10.8% 7.6% 1.3% 6.3% 10.4% 7.9% 1.1% 6.8% 10.4% 7.9% 1.0% 7.0% 31.1% 30.6% 27.2% 27.3% 25.3% -19.6% 76.5% 66.1% 52.1% 41.0% 23.4% 26.8% 33.9% 53.1% 23.4% 25.3% 26.5% 43.3% 101 Revenue 102 Cost of goods sold 103 Gross profit lOR 1-43, Deloitte Report Figure 7 lOR 1-43, Oeloitte Report Figure 7 Ln 101 -ln102 lOR 1-43, Deloitte Report Figure 7 Ln 103 -In 104 Ln 101 x In 106; Forecasts: lOR 1-11 Ln 105 -In 106 Sum In 107 Common size 100.0% Ln 101/ln 101 81.6% Ln 102/ln 101 -18.4% Ln 103/ln 101 11.1% 7.3% 1.5% 5.8% Ln Ln Ln Ln 104/ln 101 105/ln 101 106/ln 101 107 I In 101 Grow.ttJ rit!§ 116 Revenue 117 Revenue (S=yr) 118 Operating profit 119 Operating profit (5-yr) 1/ 21 Includes costs and profit markups paid to UK, DE, and FR. 1998-2004 estimated to equal ratio of ICC/Revenues for 2005. Page 2 of2 l.:Yl (Ln 26.9% (Ln (Ln 35.9% (Ln 101 curr/prv yr)-1 101 curr/5yr ago)"(1/5)-1 107 curr/prv yr)-1 107 curr/5yr ago)11(1/5)-1 Table2 Amazon Implied Return on AEHT's Investment In Intangibles Figures in $ millions ~ line 201 Operating profit after IDCs 202 PCTs 203 Operating profit after IDCs and PCTs 204 IRR 6.QQ.§ 2007 (86.2) 230.9 228.3 73.2 (159.4) 82.7 54.9 173.4 148.2 028%) 82 ~ 347.2 28.3 319.0 ~ 2010 2011 489.7 11.0 655.8 829.5 3.3 478.7 652.5 1.1 828.4 ~ Table 4, Ln 407 Deloitte Report, Figure 14 Ln 201 - Ln 202 Table 3 Amazon.com Summary of Deloltte Report Figures in $ millions 2005 Line 301 302 303 304 305 306 IP Profits Other Than Attributable to Assigned IP IP Profits Attributable to Assigned IP TotaiiP Profits License PCT Payments Assignment PCT Payments IP Profits Other Than PCT Payments 105.2 41.2 146.4 73.2 - 73.2 2006 165.1 41.2 206.3 66.2 16.5 123.6 2007 256.0 41.2 297.2 47.3 7.6 242.2 2008 374.1 41.2 415.3 47.3 2.8 365.2 2009 515.3 41.2 556.5 25.5 0.8 530.2 2010 679.3 41.2 720.5 10.2 0.2 710.1 2011 855.1 41.2 896.3 3.1 0.1 893.1 Source DR, Fig. 12, p. 38 DR, Fig. 13, p. 39 Line 301 + line 302 DR, Fig. 14, p. 39 DR, Fig. 14, p. 39 Ln 303 - In 304 - In 305 Table4 Amazon Discounted C.sh Flow Analysis Figures in $ millions Terminal ~ 2mlUl Taxl!!l!!r estimates 2,571.9 2,098.5 473A .l.l!:!l 401 Revenue 402 Cost of goods sold 403 Gross profit 404 Operating expense 405 IOC expense 406 Tota1 operating expenses 407 AEHT operating profit Plus: 408 Depreciation 1/ Less: 409 capital expenditures 1/ 410 Increase In net WOflting capital 86.2 86.2 {86.2) 411 Cash adjustments 412 413 414 415 416 (86.2) Gash flow Terminal year growth Discount rate ~ 4,907.9 4,003.4 Z2Q§ ~ 22.12 904.5 6,248.8 5,098.3 1.150.5 7,832.5 6,393.2 1,439.3 9,665.6 7,892.2 1,773.4 152.0 90.5 242.5 230.9 581.2 95.0 676.2 228.3 703.5 99.8 803.2 347.2 844.8 104.8 949.6 489.7 20.4 17.2 20.3 (97.0) 129.9 (18.5) 73.8 53.3 284.2 &.Q11 I 11,927.7 YJl!l: 12,383.4 9,739.2 2,188.4 Oeloitte Report, Figure 7 Oeloitte Report, Figure 7 ln401-ln 402 1,007.6 110.0 1,117.6 655.8 1,243.4 115.5 1,358.9 829.5 861.2 Oeloitte Report, Figure 7 lOR 1-11 Ln 404 + In 405 Ln 403 - In 406 19.5 23.1 26.2 . Table A-1,1ns 126 & 132 (49.6) 123.1 (34.0) 99.0 (35.3) 116.7 (38.6) 144.0 29.0 TebleA·1,1ns 128 & 131 -L.n 421 72.5 93.8 84.5 104.6 133.6 29.0 Sum of Ins 408 to 410 300.8 441.0 574.3 760,4 963.1 890.2 Ln407+1n411 Table B,ln 114 Table 5, Ln 514 Table C 1/(1 +In 414)" In 415 - 3.8% 18.0% Period Discount factor 417 PV cash flow 3,603.4 ~ 0.555 0.912 1.555 0.773 2.555 0.655 3.555 0.555 4.555 0.471 5.555 0.399 6.555 0.338 0.338 (78.6) 219.7 197.1 244.9 270.2 303.2 325.4 2,121.5 ln 412 X In 416 Less: 418 FMV net assets 21 419 Implied intangible value NOTE: 420 Net working capital 1/ 421 lncr/(deer) in NWC 11 l !1.81 (at 12131/04) 3,605.1 1 Actual (73.0) Table A-1,1n 124 Ln 417 -In 418 I At rete of: (202.8) (129.9) (276.7) (73.8) (399.7) (123.1) (498.8) (99.0) -6.4% (615.5) (116.7) (759.5) (144.0) 3,857.9 482.1 367.7 114.5 3.0% 4,907.9 581.2 444.1 137.0 2.8% 6,248.8 703.5 537.9 165.5 2.6% 7,832.5 844.8 646.0 198.8 2.5% 9,865.6 1,007.6 770.4 237.2 2.5% 11,927.7 1,243.4 950.7 292.8 2.5%1 (786.6) (29.0) Table A-1,1n 117 Table A-1,1n 116 Ln 420, curr - prvs yt .!.!.m..QQ! 422 Revenues 2,953.9 423 Total operating expense 393.9 424 Intercompany expense and profit merll 299.9 425 Lux Ops ·value-added" costs 94.0 426 Value-added as % of revenues I 3.2% 1/ 21 31 41 Oeloitte Report, Figure 7 Oeloitte Report, Figure 7 lOR 1-11 Ln 423 • In 424 Ln 425/ln 422 2005 change in NWC assumed to be equal to zero. 2009 and following years besed onAEHT, Form 5471 data, 2007.08. See Table A-1. FMV net assets for Amaz.on Europe Holding Technologies (AEHT). AEHT only activity in 2005 was to make cost share payments. AEHT mede 100% of cost share payments, and recorded Income after the business lran$fer date of April 30. 84 Table4a Example (using Luxembourg 2008 data) Accrual to Caah Basis Income Statement Figure• in $ millions =sum- Adiust~JW~nts .bini Forecasted Accrual Basis ll'la" in ll'la" in ~ ~ .llrt!!ll!!I:X prom & Loss statement 401 Revenue 402 Cost of goods SOld 403 Gross profit 406 Operating margin Dea in Other assets~ Other N!Bb (424.1) 68.4 703.5 99.8 803.2 347.2 C- lncr in (125.7) 6,248.8 5,098.3 1,150.5 404 Operating expanse 405 IDC expense 406 Total operating expenses 407 AEHT operating profit Deer in (1,080.1) 1,096.9 I !LIS%] cash Basis ~ ~ 6,123.1 4,742.6 1,380.5 : Table4, Ln 401 : Table 4, Ln 402 : Table 4, bn 403 720.3 99.8 820.1 560.4 : Table 4, bn 404 : Table 4, bn 405 : Table4, bn 406 : Table 4, bn 407 9.2%1 Ln 407 11n 401 (90.1) -ln414 20.3 Table 4, bn 408 (49.6) Table 4, bn 409 .-I-~44;.;1~.0~1 Ln 407 + Sum (bns 409 to 411) 7.2% bn412fln401 409 Investment in operating cash 410 Plus: Depreciation 411 bess: Capital expenditures 412 Free cash flow 413 As%ofrevenue Ac:tual1/ Ne1 WOI'kino.1:8Dltal accounts 2Q.QZ Z!X!§ ~ 416.8 322.6 391.1 719.3 (575.7) (8.4) 135.2 1,265.7 414 415 416 417 418 419 420 421 Operating cash Net 8C()OUOIS receivable Inventory Other cuiT8nt assets Les&: Mktable sec Less: Interest rae Other oper cuiT8nt assets Total operating CUIT8nt assets 326.7 196.9 322.7 1,372.2 (153.6) (3.4) 1,215.2 2,061.6 422 423 424 425 426 Accounts payable Other NIBL Less: Debt OtherNIBL Total NIBL 912.9 1,337.0 335.1 1.427.8 (6.6) (2.5) . 1,425.3 328.4 2,338.2 1,685.4 427 Net WOI'king capital 1/ (276.7) 90.1 125.7 68.4 (1,080.1) 424.1 (1,096.9) (399.7) Forecaslad AEHT/buxOps balance sheets were not available. (123.1) TableA-1, Ln 105 Table A-1, bn 106 Table A-1, bn 107 Table A-1, bn 108 Table A-1, bn 109 Tab!eA-1, bn 110 Sumoflns417to419 Sumofbns414to419 TableA-1, Ln 112 TableA-1. bn 113 Table A-1, bn 114 Sum of Lns 423 to 424 Sum of bns 422 to 424 Ln 421 ·In 426 TableS Amazon Cost of Capital Estimate As of December 31, 2004 $ figures in minions Line Yi!Y!t 501 502 503 Market value of equity Interest-bearing debt 1/ Total capital 504 505 Equity I total capital Debt I total capital $18,072.6 $1,849.8 $19,922.4 Source Compustat [MKVALQJ Compustat [DLTIQ) & [DLCQ) Ln 501 + Ln 502 90.7% 9.3% Ln 501 I Ln 503 Ln 502 I Ln 503 Cost of Equity (CAPM) 506 507 508 509 Risk-free rate 21 Equity risk premium 31 Adjusted levered beta 4/ Cost of equity 5.0% 7.2% 2.004 19.3% Bloomberg Ibbotson SBBI Bloomberg ln 506 + (Ln 507 X Ln 508) 510 511 512 Cost of Debt EsUmated cost of debt 5I Tax rate After-tax cost of debt 5.8% 35.0% 3.8% Bloomberg Assumption Ln 510 X (1 • ln 511) 513 WACC 17.9% (ln 504 X ln 509) + (ln 505 X Ln 512) 514 Rounded WACC 18.0% Ln 513, rounded to 100 basis points 1/ 21 31 DLTIQ =Total long-term debt, DLCQ =Debt In current liabilities. 20-year U.S. treasury bonds yield, as of 12131104. 2004 Valuation Yearbook, arithmetic mean for 1926-20041ong-horizon S&P 500 premium. Monthly Adjusted Levered Betas from Bloomberg, Monthly 12/31/99-12131/04. Corporate bonds, seasoned Issues, all industries, yields Aaa to Baa, 12/31/04. 41 51 86 Table& Amazon Intangible Value Implied by Merchants @ Commission Rates Figures In $ millions J.lD.Q ~ 2.22.§ 2Q.QZ 22Im ~ 2!lli1 .2!211 T!!!J:!&~ estimates 601 Revenue ImnlDil Yu! ~ 12,383.4 Deloitte I 3.8% 2,571.9 4,907.9 6,248.8 7,832.5 9,665.6 11,927.7 602 Merchants @ Commission 12.5% 322.6 615.7 783.9 982.6 1,212.5 1,496.3 1,553.4 603 Period 604 Discount Factor 18.0% 0.555 0.912 1.555 0.773 2.555 0.655 3.555 0.555 4.555 0.471 5.555 0.399 6.555 0.338 6.555 0.338 - 249.4 403.4 435.2 462.3 483.5 505.6 3,702.0 86.2 30.2 Table 4, In 405 78.6 23.3 ln 604 x ln 606 605 PV net commissions 6,241.4 ln 1 X 12.5% TableC TableS Ln 602 X ln 604 Adjustments 606 IOC Expenses prior to 4130106 607 PV IDC expenses 608 PV net commissions less IOC expenses 102.0 [__~13M] Ln 605 - Ln 607 Table 7 Amazon Market Value Analysis Figures in $ millions Y!!t !tf!m 701 702 MV equity BVequity 703 704 705 Intangibles- other Goodwill Total booked intangibles 706 MV intangible assets Source 21 Dec04 Footnote 1 CEQ 16,251.2 (227.2) INTANO GDWL Ln 703 + Ln 704 5.4 139.0 144.4 ln 701 - Ln 702 + Ln 705 16,622.8 Allocation to European Markets 707 708 Revenye Amazon consolidated AEHT/LuxOps 709 AEHT/luxOps share 710 Implied intangible value attributable to European markets TableA-2 Table 1 6,921.1 2,252.7 Ln 708/ln 707 32.5% Ln 706 X Ln 709 5,410.4 Adjustments 711 Forecasted Operating Profits Retained by AIS/AIM 164.1 76.0 Table 1, In 105 712 Discount Factor 0.912 0.773 Table4,1n416 713 PV AIS/AIM Retained Op Profits 149.7 58.7 ln711 xln712 714 Adjusted intangible value 1/ 21 208.4 Ln 710- Ln 713 5,201.9 Equal to average closing share price for Nov 1 2004 to Dec 31 2004 period multiplied by the number of common shares outstanding as of Dec 31 2004. All CAPS sources are Compustat mnemonics 88 Appendix A Cash Adjustments Estimates Appendix A Cash Adjustments Estimates This Appendix describes our assumptions regarding AEHTILuxOps forecasted depreciation expense, capital expenditures, and net working capital. These assumptions are necessary to estimate the AEHT/LuxOps cash flows used in our DCF analysis. We use data available on AEHT's tax returns and Amazon's publicly available consolidated results to derive our assumptions. Table A-1 presents certain AEHT/LuxOps income statement and balance sheet data from Amazon's . ' Forms 5471 for the years 2004 to 2008. Table A-2 presents Amazon's consolidated results for the years 1995 to 2009. Depreciation Expense The forecasted income statements provided in the Deloitte report do not separately show depreciation expense. Depreciation is a non-cash expense which is added back to operating profits in a DCF analysis. In our DCF analysis presented in Table 4, we use actual AEHT/LuxOps depreciation expenses for the years 2006 to 2008. Line 126 of Table A-1 shows AEHT/LuxOps depreciation expense from the Form 5471. For years after 2008 we assume depreciation expenses are equal to 25% of property plant and equipment ("PPE") at the beginning of year ("BoY"). This A-1 assumption is based on the average ratio of depreciation expense to BoY PPE of 24.2% for the years 20071 and 2008. See line 129 of Table A-1. Amazon's consolidated Amazon financial data confirm that this is a reasonable assumption. Line 216 of Table A-2 computes the consolidated operations' ratio of depreciation expense to net PPE-BoY, which was about 28% for the period 2000-04, and 32% for 2002-04. These ratios support our 25% depreciation rate assumption. Capital Expenditures Capital expenditures data are not directly available on AEHTs 5471s. However, we are able to indirectly estimate AEHT/LuxOps capital expenditures for 2006-08 using net PPE and depreciation expense data from the 5471s. These calculations are shown on lines 125 to 128 of Table A-1. For years beyond 2008, we assume AEHT/LuxOps capital expenditures are equal to $34 million, the average of our capital expenditure estimate for 2007 and 2008 (see Table A-1, line 128). Net Working Capital As discussed in our report, Amazon's negative operating cycle results in a significant source of cash flow. The operating cycle is the number of days of sales in inventory plus the number of days of sales in accounts receivable minus accounts payables days. 1 2007 was the first full year of operations in AEHT/LuxOps. A-2 An operating cycle is a concept similar to net working capital which is· commonly taken into account as cash adjustments for DCF analyses. In our analysis, we treat net working capital as equal to current operating assets tess non-interest bearing liabilities. 2 Amazon's negative operating cycle creates negative net working capital which, in tum, is a source of cash flow to Amazon. Forecasts of net working capital were not included in the Deloitte report. Instead, we use AEHT/LuxOps' actual net working capital data for the years 2006 to 2008 as provided in AEHTs 5471s (see lines 105 to 117 of Table A-1). For years beyond 2008, we estimate net working capital based on AEHT/LuxOps' ratio of net working capital to sales for 2007 and 2008. As shown on line 117 of Table A-1, on average for 2007 to 2008, AEHT/LuxOps held negative working capital equal to -6.4% of sales. We apply this -6:4% ratio to the projected sales data provided in the Deloitte report. On lines 226 to 237 of Table A-2, we calculate Amazon's consolidated ratio of net working capital to sales of -10.8% for the period 2000-04 and -7.9% for 2002-04. These ratios are similar to and support an assumption for forecasted net working capital equal to -6.4% of sales. 2 We have included in current assets "operating cash" equal to 7% of revenues. Amazon holds cash balances greater than 7% of revenues; however, much of these cash balances bear interest (e.g., "cash equivalents• such as commercial paper) and should be excluded from our discounted cash flow analysis. The present value derived under a DCF represents the value of the operating assets of a business. Non-operating assets, such as interest-yielding assets, should be valued separately and added to the present value to derive a firm's total value. See, for example, Damadoran, Aswath, Damadoran on Valuation, Second Edition (2006: Wiley Finance), pages 334-339. Table A-3 shows Amazon's consolidated cash balances separated into cash only balances and cash equivalents. TableA-1 Amuon Europe Holding Technologies (AEHT} Suml'llllfY Data from Fonn 5471, Actual2004-2008 Figures in $ millions Ac:lual .1.!!!! 101 Revenue 102 Cash 103 Operating cash 21 104 Exl::ess cash 7.0% Avetage ~ ~ 2!KIU! 2112! Zl!!m 22W!l n.e. 5.9 40.0 14.8 14.8 0.0 0.0 4,667.4 855.2 326.7 528.5 5,954.8 1,018.9 416.8 602.1 5,311.1 5.9 2,660.0 582.0 186.2 395.8 ~ AEHT5471 AEHT5471 Ln 102 or 7.0% x In 101 Ln 102 • In 103 t:tll WorkinG ~1!1!11 105 106 107 108 109 110 111 Opereting c:ash Net accounts receivable "-''ory Other cunent assets Lass: Mlllable sac Lass: lnllnslrec Total operetlng cunent assets 5.9 3.9 0.0 12.0 ·11.6 0.0 10.1 14.8 14.3 0.0 82.2 -34.4 -0.1 76.8 186.2 110.1 233.8 2,837.1 ·125.6 -4.3 3,237.4 326.7 196.9 322.7 1,372.2 ·153.6 ·3.4 2.061.6 416.8 322.6 391.1 719.3 -575.7 .a.4 1,285.7 AEHT5471 AEHT5471 AEHT5471 AEHT5471 AEHT5471 Sum or 1ns 105 to 110 112 113 114 115 116 117 Ac<:ounts payable 7.9 15.8 0.0 23.5 -13.4 19.4 130.3 0.0 149.7 -73.0 539.4 2.909.9 ·9.1 3,440.2 ·202.8 n.a. 912.9 1,427.8 ·2.5 2,338.2 ·278.7 -5.9% 1,337.0 335.1 .a.6 1,865.4 -399.7 -6.7%1 AEHT5471 AEHT5471 AEHT5471 Sum or tns 112 to 114 ln 111 ·In 115 ln 116/ln101 OlherNIBl less: Debt TotalNIBl Net worki'lg capital As %or revenues -338.2 -6.4%1 !!!§! ODanltina Assets 118 NetPPE 119 Other operating assets 120 Net openHing 8SSels (NOA) 0.0 0.0 ·13.4 0.1 0.0 -72.8 76.8 1.0 ·125.1 78.1 1.6 ·197.0 107.3 6.5 -265.9 AEHT5471 AEHT5471 ln 118+ In 118 +In 119 Non-opereling assets: 121 Exc:ess cash 122 Marketable securities 123 Interest receivable 0.0 11.6 0.0 o.o 395.8 125.6 4.3 526.5 34.4 0.1 153.6 3.4 602.1 575.7 8.4 ln104 AEHT5471 AEHT5471 124 NOA Including cash & 8qlliY -1.81 -38.4 398.3 485.1 891.9 ln 120 +In 121 +In 122 9ll!illl ~-DDS! Qmlreciation 0.1 76.8 0.0 20.4 0.0 -0.1 0.1 97.0 n.a. 15179.7% 78.1 17.2 -78.8 18.5 22.4% 107.3 20.3 -78.1 49.61 26.0% Average ~ 92.7 18.8 -n.4 34.0, 24.2%: Implied cap &It: 125 126 127 128 129 NetPPE-EoY Plus; Depr lass: Net PPE ·BoY Implied cap ex Depr as% or PPE (BoY) Estimate$ 130 131 132 133 NeiPPE·BoY Plus: Cap ex lass: Depr NetPPE-EoY 3.8% 25.0% AEHT5471 AEHT5471 Ln 118, ptVS yr Sum or 1ns 125 to 121 Ln 1261-tn 127 2Q!li 2Q!g 2W am 22ll 22.1! 2212 Zi!l§ 78.1 34.0 ·19.5 92.6 92.6 35.3 -23.1 104.7 104.7 36.8 ·26.2 115.2 115.2 38.0 ·28.8 124.4 124.4 39.5 -31.1 132.8 132.8 41.0 ·33.2 140.S 140.6 42.8 -35.2 148.1 148.1 44.2 -37.0 155.2 1/ Include$ eight monlhs of EU web8ite-felaled revenue. Operation of the EU websiles remained wi1h AIS and AIM prior to the business transfer dale of April 30, 2006. 21 Assumed to equel7.0% of revenue. See Table A-3, In 305. A-4 ln 133, ptVS yr GIOWih rate: Table B -Ln 130•tn 132 sum or Ins 130 to 132 TableA-2 Amazon Consolidated Financial Data Actual1995-2009 Figures in $ millons Act\Jal Y!!! .1m m§ .1m m§ .1i!!i 201 Revenues 202 Cost of goods sold 203 Gross profit 0.511 0.390 0.121 15.746 12.001 3.745 147.758 115.557 32.201 609.996 466.463 143.533 1,639.839 1,312.388 327.451 204 SG&A 0.406 0.019 9.438 0.266 58.022 3.366 195.829 9.692 0.019 0.425 (0.304) 0.286 9.724 (5.979) 3.388 61.410 (29.209) 0.052 1.214 0.031 7.221 4.953 205 Depreciation 206 Amortization 207 Depr and amort 208 Total operating exp 209 Operating profit 210 Capexpenditures 211 Stock option eost (after-tax) 2Q.Q1 ~ 2,761.983 2,021.746 740.237 3,122.433 2,239.166 883.287 3,932.938 2,858.044 1,074.892 52.292 247.921 (104.366) 673.634 36.806 214.694 251.500 925.134 (597.683) 997.574 84.460 321.n2 406.232 1,403.806 (663.569) 848.197 84.709 181.033 265.742 1,113.939 (230.672) 661.443 82.274 5.478 87.752 969.195 105.697 28.333 6.973 287.055 311.957 134.758 309.039 50.321 395.808 39.163 79.156 730.144 255.325 79.749 74.271 ~2.600 212 Intangibles 213 Revenue grow1t1 214 Operating profit growlt1 22QQ 2981.4% n.a. 838.4% n.a. 312.8% n.a. 168.8% n.a. 68.4% 13.1% n.a. 26.0% n.a. 0.057 501.8% 0.985 344.0% 9.265 104.6% 29.791 123.5% 317.613 26.6% 368.416 23.1% 271.751 30.3% 100.0% 76.3% 23.7% 100.0% 76.2% 23.8% 100.0% 78.2% 21.8% 100.0% 76.5% 23.5% 100.0% 80.0% 20.0% 100.0% 73.2% 26.8% 100.0% 71.7% 28.3% 100.0% 72.7% 27.3% 79.5% 3.7% 0.0% 3.7% 83.2% -59.5% 59.9% 1.8% 0.0% 1.8% 61.8% -38.0% 39.3% 2.3% 0.0% 2.3% 41.6% -19.8% 32.1% 1.6% 7.0% 8.6% 40.6% -17.1% 41.1% 2.2% 13.1% 15.3% 56.4% -36.4% 36.1% 3.1% 11.7% 14.7% 50.8% ·24.0% 27.2% 2.7% 5.8% 8.5% 35.7% -7.4% 22.4% 2.1% 0.1% 2.2% 24.6% 2.7% 6.248 109.810 25.561 116.962 141.922 149.968 302.964 215 Net PPE- BoY 216 Depr as 'Yo of PPE (BoY) n.a. Common size 217 Revenues 218 Cost of goods sold 219 Gross profit 220 221 222 223 224 225 SG&A Deprec:iatlon Amortization Oepr and amort Total operating expenses Operating profit !91l!llorkino Caoltal 226 227 228 229 230 231 Operating cash Net receivables Inventories 0.017 0.571 8.971 29.501 220.646 174.563 143.722 202.425 Prepaid expenses Other current assets Current assets 0.014 0.031 0.321 7.140 3.298 122.079 21.308 76.370 85.344 422.952 68.044 402.529 67.613 361.303 112.282 617.671 0.099 2.852 32.697 113.273 463.026 485.383 444.748 618.128 0.008 0.107 2.018 4.870 9.621 42.318 47.618 160.891 261.587 724.613 472.996 958.379 461.674 906.422 434.512 1,052.640 (0.076) 2.270 14.4% 79.761 54.0% (84.521) -13.9% (301.661) -18.4% {555.850) ·20.1% (545.119) -17.5% 232 Ac:counls payable 233 Accruad exenses 234 Other current liabilities 235 Non-int bearing liabilities 236 Net working capital As %of revenues 237 Page 1 of3 A-5 (434.969) -11.1% TableA-2 Amazon Conaolldated Financial Data Actual 1995-2009 F~gures in $ millions A<:tual ~ ~ ~ ~ ~ 2007 ~ ~ 201 Raven~ 202 Cost of goods sold 203 Gross profit 5,263.699 3,930.973 1,332.726 6,921.1 5,244.1 1,677.0 8,490.0 6,338.0 2,152.0 10,711.0 8,055.0 2,656.0 14,835.0 11,224.0 3,611.0 19,166.0 14,585.0 4,581.0 24,509.0 18,594.0 5,915.0 204 SG&A 983.681 75.558 2.752 78.310 1,061.991 270.735 1,169.5 75.1 1.0 76.1 1,245.6 431.4 1,589.0 113.0 5.0 118.0 1,687.0 465.0 2,037.0 200.0 10.0 210.0 2,247.0 409.0 2.685.0 258.0 13.0 271.0 2,956.0 655.0 3,452.0 311.0 29.0 340.0 3,792.0 789.0 4,300.0 384.0 48.0 432.0 4,732.0 1,183.0 210 cap expenditures 211 Stock option cost (after-tax) 45.963 89.1 23.5 204.0 216.0 224.0 333.0 373.0 6.774 212 Intangibles 69.639 144.4 170.0 218.0 276.0 598.0 1,801.0 213 Revenue growth 214 Operating profit growlh 33.8% 156.1% 31.5% 59.3% 22.7% 7.8% 26.2% -12.0% 38.5% 60.1% 29.2% 20.5% 27.9% 49.9% 239.398 31:6% 224.3 33.5% 246.2 45.9% 346.0 57.5% 457.0 56.5% 543.0 57.3% 854.0 45.0% 100.0% 74.7% 25.3% 100.0% 75.8% 24.2% 100.0% 74.7% 25.3% 100.0% 75.2% 24.8% 100.0% 75.7% 24.3% 100.0% 76.1% 23.9% 100.0% 75.9% 24.1% 18.7% 1.4% 0.1% 1.5% 20.2% 5.1% 16.9% 1.1% 0.0% 1.1% 18.0% 6.2% 18.5% 1.3% 0.1% 1.4% 19.9% 5.5% 19.0% 1.9% 0.1% 2.0% 21.0% 3.8% 18.1% 1.7% 0.1% 1.8% 19.9% 4.4% 18.0% 1.6% 0.2% 1.8% 19.8% 4.1% 17.5% 1.6% 0.2% 1.8% 19.3% 4.8% 355.000 711.000 1,399.000 391.000 838.000 2,171.000 205 Oepreciation 206 Amortization 207 Oepr and amort 208 Tota1 operating exp 209 Opemllng profit 215 NetPPE-BoY 216 Depr as %of PPE {BoY) Common size 217 Rave~ 218 Cost of goods sold 219 Gross profit 220 221 222 223 224 225 SG&A Depreciation Amortization Oepr and amort Tota1 opemllng expenses Opemtlng profit rB1 Workina ~l!illl 226 227 228 229 230 231 Opemllng cash Net receivables Inventories 427.306 418.000 115.000 118.000 813.000 293.917 479.709 12.000 877.000 17.000 460.000 1,472.000 1,200.000 23.000 829.000 2.865.000 320.000 2,785.000 424.000 3,822.000 Other current assets CUrrent assels 132.069 853.292 1,178.197 586.000 15.000 346.000 1,044.000 232 Accounts payable 233 AIII11Jc:ons-.&oncmloolnc., ~ctarowV.M.~ $3 Upperllooll8hel,l.cinllaft, W!K 2LT, !JI!IIIIII~otr~v..,.u..., ,.._ 011 z.z,....._..,......,_...,......,......,..._,_...._,.............-.-.._...._~............, ·" - - - - - - - - ...rtf--/-- - \..\I..,..... ~\ - 2.0 2005 u Ia • - - - - -l'3bl'"di0Wih1%f- -- - - u _ _ _ _ _ 29Q! _ _ _ _ _ _ ,.. GOP GRiwth (%) u .,. . Comlellllllt Forecatlla for 2001 from ......, of Connnaus Aug 8ep Oct July 2003 FOt'ICIIId. May '04 June .().9 .().9 ·2.8 1.2 0.4 0.8 1.8 1.6 2.8 2.0 1.7 2.8 2.0 1.8 2.7 2.0 1.8 2.7 2.0 1.5 2.6 1.8 1.3 2.5 CJ GOP • Gross Domestic Product IMF International Monetary Fund na not available Emu European economic and monetary union OECO- Organisation for Economic Co-operation and Development ECB -European Central Bank y-o-y • year-on-year q-o-q - quarter-on-quarter m-o-m - month-on-month CJ Measures of GOP, Consumption, Business lnvestmenl and Industrial Production are expressed In real (i.e. inftation...adjusted) terms. These variables, and certain others as indicated, are expressed as percentage changes over the previous year. a All individual country forecasters on pages 4-24 are listed in dasoanding order of their 2004 real GOP estimates. Consensus forecasts are mean arithmetic averages of the listed Individual estimates. 0 Copyright ConsensUs Economlc:a Inc. 2004 In addition to their regular forecasts, country paneHists were asked to provide tonger-tenn foreCasts covering the period until 2014 for growth in real GOP, consumer spending, Investment and Industrial production, along with consumer price inflation, currentaccountbalancesandlong-tennbondyields.ADdefinitlonsCOI'1'9SPOI'ldtolhoseusedlntheindlvlduaJcountrypages. United States " 5 change aver pt'/WIDus year Grass Domestic l'roclucr Pftonal Consumption* Buslneu lnvlllltmal.r Industrial Production" Consuna- Prices" Current Account Balance (US$bn) 10 y_. Tnaaury Bond Yield, VI ConsaniiiSFcncasts Histoltcal 4.7 8.7 -4.2 4.4 -3.4 3.4 2.8 1.6 -413 ·386 -474 5.1 4.1 3.8 5.7 . 5.8 3.7 3.7 2.3 2.5 2.5 2.5 ~ -663 -650 -618 5.5 5.6 5.7 5.8 7.4 4.2 4.6 2.6 -640 4.6 3 5.8 3.9 -65T 5.9 •End period 'End JMUifry, 20D5 •End October. 2005 the next 10 years, wift remain large. This suggests lhat consumerspendingstrengthoould be becoming increasingly unsustalnable.GOPexpectationsintheUKoverlhemecliutntenn are also coloured by worries over rising household borrowing. In the past. borrowing has been financed by very buoyant housing market. but worries over debt Indicate that this probably cannot continue wilhout precipitating a correotion. Japan has the opposite problem: domestic demand is still muted while the expansion remains overly reliant on export demand. and GOP growth after this year is expected to slow substantially. Moreover, an expected consumption tax hil-Dnr tor 0188 to 0498) 8 1.8 6 Real Growth and Inflation 1 6 4 " (~ for 1985-1991 are for former West Getmtmy) a 4 2 2 1 ,, 0~~+4~~~+-~~~~~~~~+4~ 0~~~~~~~~~~~~~~ -1 UM·A-~flU~MB.WNN~~~~~"~M·~ -Real GOP (% chg yoy)-- - Consumer Prices (% chg )'0)') 0 COpyright eon-.&us Eeonomlc& Inc. 2004 Q186 Q288 Q390 Q492 Q195 0297 Q399 Q401 Q104 - 3 Mth Ewo Ral8 - - - 10 Yr GeM Bond Yield 9 Average,. Ct'IIIIJII on Pmloua CtlhlftderVear . Gnlls Houullokt e-nptlan Dom..tlc Prvduot ..,.,.,.. 8ulfnela lndustrieJ b-'mlnt Production (.cl COIISirUC:tlon. ene11J and food) ~ desEn~Nprlus Ccln&umer PrieM ,..,. l'rollul:fRin ........ ttaurty ,.,.. T_de..,.. ,.,.,.""" CCJfiiOIMNIIion !amomfcFo~ 2004 210$ 2004 HOI 2004 2001 21104 2005 . 2004 2085 2084 2101 ICnldl Comm de fl'lll08 2.7 2.8 2.8 2.5 2.5 2.5 2.5 2.5 2.5 2.5 2.5 2.6 2.4 2.4 2.4 2.4 2.4 2.4 2.4 2.4 2.4 2.3 2.3 2.5 2.5 2.3 2.8 1.8 2.4 2.1 2.3 2.8 2.1 2.4 2.1 2.2 1.9 2.2 2.6 1.9 2.4 4.4 4.9 4.9 SA 2.2 2.7 3.2 2.0 2.7 2.7 3.7 4.5 2.9 1.3 2.1 2.1 2.6. 2.8 2.7 2.5 3.2 2.5 2.7 2.5 na 3.1 2.8 3,0 ·na na 2.3 1.7 1.5 2.2 2.3 2.0 2.0 2.0 2.2 2.2 2.8 1.7 1.9 1.9 1.7 1.8 1.7 1.8 1.8 2.0 2.0 1.7 1.8 1.4 2.0 2.0 2.8 2.8 2.1 2.2 2.7 2.1 2.6 1.9 1.5 2.4 2.2 2.3 2.0 2.2 2.1 2.1 2.4 2.4 2.5 2.3 2.5 2.4 2.4 2.3 2.3 2.5 2.4 2.3 2.3 2.3 2.4 2.3 2.3 2.5 2.3 2.4 2.4 2.4 2.4 2.4 na 2.9 na 3.0 2.5 2.2 2.4 2.5 2.1 2.7 2.3 0.1' 2.3 2.1 2.7 1.5 0.3 2.5 2.4 2.3 2.8 Protlult 8IPE jGaldnalllcM of Amlllca Pftrv r&pana~Dn IBank lc.m.. ICOE-CCIP !CNdl A(ptcole HIIIC ~ r: = CDCOII8 ~.=-' ..... ,.... Baml• Populllnt Societe Genenlle ...... ~~ EDon IRtllllgence Unit (111M) Last lllontb........ 3 Montllll Ago Hlgla ~ Standen~ DIWIIIIon 2.0 2.8 FOIIICIIIbJ o-mant (Sap.~ 2.5 Elur Comrnrlllimt (Apr. '1M) 1.7 ltMf(Sep.'M) iOS:O(JiaJ'IMJ 2.6 2.0 na na 4.8 4.8 4.8 na 4.5 4.8 3.9 3.7 4.0 4.0 4.6 4.2 3.5 4.0 4.1 4.5 4.8 8.1 1.8 2.4 2.8 z.o 2.1 1.9 na na 2.2 1.7 2.1 2..2 3.5 2.2 2.0 na 2.2 1.9 na ne 2..2 2.3 2..2 2..2 2.0 2.4 2.1 2..2 2.2 2.2 2.3 2.1 2..2 2.0 2.2 2.8 2.8 na 2..2 2.1 2.3 2.3 u 2.8 2.6 2.8 2.4 na na 2.2 4.3 5.1 2.4 2.7 2.2 1.8 2.7 2.7 2.4 2.2 2.5 2.3 0.1 2.2 2.0 4.2 3.1 4.8 3.5 0.4 5.1 4.3 7.3 0.5 2.2 2.1 2.4 2.0 0.1 0.2 2.7 2.7 2.9 2.1 0..2 2.7 2.8 3.2 2.0 1..2 2.8 2.8 4.5 0.9 1.0 1.7 1.7 2.0 3,0 2.3 2.1 3.5 1.7 2.4 1.7 2.5 1.7 2.4 2.3 2.5 2.5 4.3 4.7 2.2 1.8 2.9 1.5 0.3 · 2.0 u :u na na 3.5 2.2 3.5 4.0 2.8 na na 2.5 2.8 na na .na 2.8 na 2.5 .1.8 na 1.4 1.3 1.9 1.9 1.4 1.8 2.8 na 2.8 2.9 2.5 1.9 na 118 u na 118 2.9 na 2.8 3.2 2.0 na o.a Hlstorlc:al Data 2005 2006 2004 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Grote Domastlc 1.7 3.0 2.1 2.7 2.6 u u 2.3 .1.4 2.8 Product Pllces na 2.2 na Quarterly Consensus Forecasts HJstot#cal Data snd Fotecasts (bold ltatlcs) Ftom SuMiy of Sspfemller 11. 2tJ04 Coneumer etiAAJ 2.5 2.2 na l!xaltange Rate -1.131 (average, 2003.). u Cai!IIGiftfllllfion 3.9 3.9 2.9 President - Mr. Jacquas Chlrac (UMP). Prime lllnlstllr • Mr. Jean. P1em1 Ralfarin (UMP). Pa11ement • The cenlrNght Union far a Popular McNement (UMP) he& 353 out ollbe 577 eeatlln the NaliQnal Assembly. Next Etectlona • 2007 (pn!81denllal). Nomlmtl GOP Ewo1.558bn (2003). Popul;dloft • 60.1mn (mid-year, 2003). SIEuro Consumption 1.8 2.7 2.1 2.5 5.1 lmlus,.,. na 8.9 6.0 5.3 3.9 5.5 4.8 5.9 5.0 3.0 3.6 3.8 5.5 3.4 4.2 Government and Background Data Houeehold 7.2 7.3 .... 2.4 u 1..1 1.1 1.1 1.1 1.1 1.8 • "change on pt8Viaus YNT 2000 2001 2002 2083 Gross Domnllc Product* 4.2 2.1 1.1 Household Consumption* 3.0 2.7 1.8 1.7 Business lnvestmenr lndulltrial Production• Consumer Prices* Hola'ly wage Rates* 9.1 3.5 -3.8 -1.8 5.1 0.8 -1.9 -0.9 1.7 1.6 2.0 2.1 5.2 4.2 3.6 Unemployment Rate,% Current Account, Euro bn PubHc Sector Budget Balance, Euro bn 3 mth Euro, % (end yr) 10 Yr french Govt Bond, %(endyr) 0.5 9.4 8.7 9.1 2.8 9.8 19.5 24.0 15.4 4.8 ·20.0 ·22.5 3.3 4.8 -49.8 -64.8 2.9 2.1 4.2 4.4 5.0 5.1 A 10 0 Copyright Consensull Economics Inc. 2004 v- UnemploJ. menl RIM(%) Tawrtle ~ C:urrenl Publk: Sec:lor Budget {Eurobn) 8lllance (Eurobn) Tawr cl'fmilllf 3,. aoos 2004 2005 .::..=. (Euromd) 0.0 10.8 na na 9.6 11.8 na 9.8 na 9.9 9.8 9.8 9.7 9.8 9.8 9.8 9.9 9.8 9.8 9.8 9.8 9.8 9.8 9:1 10.1 9.8 9.6 9.8 9.6 9.8 9.6 10.1 10.1 9.7 9.0 0.1 0.2 9.6 9.4 9.9 9.6 3month Euro" Rate(%) ,:;;;:::,. Soltle Counlnt 9.8 9.5 9.8 9.5 9.8 9.6 9.5 9.5 9.7 10.0 9.4 9.6 9.5 9.5 9.6 9.8 10.1 9.8 9.4 9.0 9.6 9.7 9.4 9.5 9.9 au,.,. on. 2.1% "-at 2004 200$ 2004 9.9 9.8 9.8 9.9 Rilles 011 Annual Total Average 4.0 14.3 -5.5 ...4 2.6 8.5 na na 0.9 ·3.0 -1.7 ·2.2 10.0 15.0 0.2 ·1.7 -7.0 -11.0 ·1.2 3.0 16.0 12.0 na na na na 9.0 15.0 5.0 7.0 0.0 -5.0 5.1 -4.9 11.8 13.8 na na 3.4 4.7 4.3 6.1 8.2 9.9 16.0 15.0 -7.0 ·11.0 7.0 8.1 (&rimd} &lo("J -58.0 -50.0 -50.2 -52.7 -54.0 -43.6 4.0% 10Yfflnch GeM Bond 'Ytefd (%) ,.,. ~-· lind Etld .Jan'OSOcd'OS 2.1 4.4 4.8 2.5 4.2 4.8 2.7 4.5 4.4 2.1 2.1 2.2 na na na na na na -81.5 -50.7 ·50.0 na -59.7 -82.5 -82.0 -58.5 ·59.0 ·58.7 -53.0 -50.3 -55.9 -53.0 2.1 2.4 2.2 2.3 2.4 2.7 4.2 na. 2.1 1.8 4.5 4.2 4.3 4.5 4.4 4.2 4.4 4.0 4.3 4.3 4.4 4.8 4.3 4.4 4.3 118 na 2.3 2.1 2.1 2.1 2.8 2.1 2.0 2.1 2.1 . 2.6 2.2 2.2 2.5 na na 2.4 2.5 2.3 2.1 3.3 2.4 2.0 2.4 2.1 3.5 2.7 2.6 3.2 4.5 4.7 5.0 4.5 4.5 5.0 4.8 4.5 4.9 4.4 4.5 4.7 4.9 na -59.4 -52.0 2.2 2.5 ..7.8 -51.0 ·56.0 -50.3 -46.0 ·55.9 ·55.0 na na na ne -50.0 -61.0 -80.0 -61.7 -82:0 -51.0 ·55.0 -55.0 ..9.9 -57.0 na -61.0 -83.2 -53.0 -62.5 2.5 4.4 na 5.1 5.0 4.8 4.7 na na na 4.3 4.7 -54.5 -58.2 -43.5 -57.0 3.8 3.5 1.8 0.4 2.6 2.0 0.2 4.8 4.0 0.2 5.1 4.4 0.2 20040utJook Firm But Downside Risks Remain Despite the final national accounts report for the second quartershowing real GOP growth revised down lo2.8% from aprevtousestimateof3.0%(y-o-y),lheoutlookforboth2004 and 2005remalns relatively upbeat. This is dueto1hefactthat domestic demand continued to drive the recovery during 1he second quarter. Moreover, more recent indlcators suggest thatdomesticactivityremaln$robust.lndustrialistseotiment rose in September on the back of Improved output expectations, and consensus forecasts forbo1h business investment and production forecasts for 2004 rose again this month. Consumer confidence also incnlased, but oonsumption of l'l18llUfac::t1 products slippadfromgrowlh of2.9%m-o-mln Julyto0.5% In August. Spending does tend towards volatility during the summer months, however, and it is hoped that consumption data going into the autumn will show a more positive return to form. This wiD depend mainly on the labour market environment, however. The unemployment rate rose to 9.9% in August after drOpping to 9.8% in July. Moreover, employment, while growing by 0.1% q-o.q during the AprilJune period, shows only a modest improvement. Ouite simply, GOP growth, while relatively robust compared with activity in Germany or Italy. for example, is not strong enough to ensure buoyant job creation and, therefore, sustain the current pace of household consumption growth over the medium-term.lndeed,thenationalstatisticsoffloe's(INSEE) quarterly assessment of the French economy expects domestic demand to modereteslightly In the second half of this year and going into 2005. Consequently, GOP growth is also projected to slow. lnanefforttosupportconsumerspanding,thegovemment's 2005 budget focused on nising the minimum wage, household tax breaks and introducing measures to create 190,000 new jobs next year. Analysts, however, remain unconvinced about the government's ability to boost employment growth and have also pointed toanytaxsystam overhaul. Forecasts for the budget deficit naxt year, however, have dropped as a result of an expected boosttothefiscal accounts ln2005 from a €6.9 bn injection due to the planned partial privatization of Elec:tricit8 de France next year. Dinlction of Trade- 2003 ..... Export ltetrlceta (% of Totld) Garmany 14.9 Sf)8ln 9.6 llnll8d Kingdom 9.4 5 Beiglum 9.4 9.1 Haly !estem EiiiDPit 1.5 ABii (liiti JSI)Iin} AM (k .Nipen) 5.4 5.2 AMc:a AtWc:a • lillljor Import Suppllera (% of Total} Germany 19.1 EBStllm ~ Short· and Long-Term Interest Rates (shott nile= 0186 fO Q498} 14 6.3 12 5.8 4.1 10 Real Growth and Inflation s mlh Eum-Fft g 8 8 \ 4 2 2 1 or+~~~~T+~~~~~~~~~~ -1 ••v•••~""""•~••"~~~M••~•~ -Real GOP (% chg yoy)--- Con8umer Prloea (% chg yoy) 0 Copyright ConeeiiiiUII Economics Inc. 2004 0~~~~~~~~~~~~~~ Q188Q188 Q190Q192 0191 Q198 01980100 01020104 - 3 Mth Euro Rate - - - 10 Yr Govt Bond Ylllld 11 AWI'Ilgl %Change on Pnwlous Calendar y_. Comp111y Mlnurlctur· GNu Hou..hold Grou Trading Domeatlc ~FIDd PnMiuct lon lnviMdmerit Prollts Produc• Rltlll '"' ,...._).. Prices tlon Eoonomlc FONC:Utera ........ ... -~ Mr:llgln ltllllly Cld 8ulaFilst Boltian Clpl;ll Economial Qfglaap ~fnllght HII8C INGFinMcilllilattllea Olfoni·LBS IBSAiwlaliiMIIIIItl E'lpRn ......8lrallglea ...........,.... 8cllnlciiN JPIIbgllt C8nDidge lioorlllllllbll:a EicanDidc: .......... I.MipoollllciD~ ...... Lilt Mllnlh'a ..... alllllnlllfAQo ...,. ..._ 8llndln.l DMIIion 3.4 3.0 3.0 3.1 3.0 2.9 s.o 3.4 3.4 3.4 3.4 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.3 3.2 3.2 3.2 3.1 3.0 2.9 2.5 2.7 3.2 2.8 3.4 2.7 3.4 2.7 3.2 2.5 3.1 2.8 3.3 2.3 3.0 3.3 3.2 2.8 2.8 2.0 3.1 2.7 -2.8 2.8 3.3 2.7 3.2 2.7 3.1 2.3 3.0 2.7 3.2 2.4 2.9 2.9 2.9 0.5 2.8 2.2 2.3 3.3 2.8 3.3 3.2 3.6 2.5 0.2 3.1 2.7 2.8 2.2 2.8 2.6 2.3 2.0 2.5 2.4 2.8 2.3 2.1 2.5 1.0 2.2 2.2 2.0 2.2 2.8 2.7 2.0 1.8 2.7 1.9 2.8 1.2 3.3 3.0 OS::O(Mity'CM) 3.1 u 4.4 6.8 5.0 7.0· 6.6 6.8 5.5 u 6.5 7.4 5.5 5.7 8.1 6.5 2.3 6.2 4.3 5.7 4.2 4.3 2.4 2.4 2.8 1.0 0.5 3.3 2.8 2.5 2.7 3.1 2.5 2.1 2.3 2.5 5.6 s.e 6.3 6.4 na na na 2.4 2.9 1.4 8.5 1.7 1.4 1.6 3.0 2.2 2.1 2.7 2.4 2.8 1.7 na Ill 6.2 7.5 Ill na na na na 2.3 2.2 I'll na na 0.9 2.8 Ill 1.2 1.9 2.2 1.3 1.6 2.2 2.3 na na na 7.3 6.1 1.2 1.3 1.6 1.0 1.1 1.5 1.2 0.7 1.8 na Ill na 3.7 4.8 1.7 10,6 7.5 ·2.1 na na 8.3 5.7 4.8 8.5 2.5 2.2 2.2 2.4 2.3 1.6 na 2.3 1.7 2.3 1.8 . 2.0 1.5 2.0 6..4 na na na 4.1 ·2.5 1.5 1.1 na na 7.6 4.5 1.4 8.7 4.7 7.0 5.9 1.7 10.6 3.7 ·2.5 2.1 3.6 1.6 1.6 na 1.9 0.7 0.3 1.9 2.1 2.0 2.3 2.5 2.8 2.4 2.5 na na na 2.5 1.5 2.3 2.8 2.2 3.1 2.3 2.3 2.8 2.2 2.2 1.8 1.9 1.4 1.8 1.4 2.7 2.2 2.2 2.2 2.3 2.4 2.1 2.3 2.3 2.7 2.5 2.8 2.5 2.0 2.2 na 2.1 2.3 2.6 2.4 2.4 2.o 2.2 na 2.3 0.9 2.3 3.0 0.9 0.8 1.5 1.3 1.5 1.4 1.4 1.5 1.4 1.3 1.4 1.4 1.8 1.5 1.5 1.5 1.4 1.4 1.4 1.3 1.4 1.3 1.4 1.4 na 1.6 1.9 1.9 na na 4.4 4.8 2.0 2.0 3.0 2.0 2.4 1.7 1.7 Ill na 2.o 1.8 2.1 2.0 1.9 1.8 1.8 1.7 1.8 1.8 1.5 1.7 2.3 1.8 na 1.8 na na na 2.0 2.5 2.5 1.9 2.3 2.5 2.8 4.8 4.7 4.3 4.6 4.7 4.7 Ill na 4.6 4.7 4.4 na 4.2 1.7 4.4 na 4.3 Ill ·4.4 .4.1 4.8 4.3 4.8 4.8 4.5 4.0 na na na 4.7 4.8 4.5 na 4.4 4.6 1.9 4.4 na 4.4 2.0 4.3 1.8 4.3 2.4 4.5 2.2 4.8 2.5 4.4 ·118 4.6 2.3 na na 2.3 2.0 1.9 1.7 1.8 1.8 2.1 1.7 1.8 1.8 na 2.0 1.8 2.5 2.4 2.4 2.0 2.0 3.6 4.2 4.3 4.5 5.2 4.4 4.8 na na na 4.8 4.5 2.2 1.5 na 1.6 na 2.3 2.0 na na 4.1 2.3 2.4 1.4 1.8 2.2 2.2 4.5 2.3 2.4 2.5 2.1 0.1 2.4 2.4 3.1 1.5 1.5 1.7 2.0 1.9 2.5 1.6 0.3 2.2 4.5 4.5 u 1.3 0.3 0.1 1.8 1.6 2.1 1.5 0.2 1.6 1..6 1.8 1.9 6.8 5.8 3.5 s.o 4.2 4.0 3.8 4.5 1.9 4.5 4.4 3.0 1.7 0.3 4.8 5.2 4.1 3.8 0.2 0.4 Historical Data Quarterly Consensus Forecasts HistD1icaJ Data lltld FOf8C8tlts (bold Italics) From Sutvey a/ ·~ 2Dtu 21104 . , . , . , 2805 2006 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Gross Damllltlc 3.4 3.7 3.3 2.9 2.B 2.5 2.4 2.3 1.1 u Prodvcl 12 4.7 4.2 8.9 Pnme lllnlstet•Mr. TonyBialr(labot.r). Parllantent• The Labour party has 8 majority In lhe 659 seal House d Commona (lower holee). Hut E1ec11ana • By 2006 (general elec:llcln). Nominal GOP • £1..o99bn (2003). Papulatloa • 59.31m (mid-year, 2003). $1£ Exdoange Rate • 1.634 (average. 2003). u na na Government and Background Data Houaahoid Consumption 3.0 3.2 2.1 Z.B 2.7 2.1 2.1 2.1 5.5 na na na na na 7.4 11.1 4.4 ·3.5 0.8 2.3 8.4 na 9.6 7.8 Ill Ill 7.0 6.6 8.7 5.6 7.0 5.6 4.2 4.5 -3.5 na 3.0 3.0 3.4 2.3 0.2 2.7 3.8 5.8 4.0 3.7 4.0 6.3 3.4 3.9 4.1 4.2 1.2 3.7 4.8 3.5 8.3 3.0 11.1 3.5 3.1 6..4 4.7 4.8 3.9 3.8 3.6 5.3 na 2.8 2.7 3.3 0.5. 0.5 2.9 6.0 7.1 6.0 6.8 2.0 FciNc:alllls ~(APL'CM) kCona I I WI (Apr. '04) IIF (8lp. '04) Ratall Prfces 2.3 2.2 (undertylng rate) = 28042005 21104 2005 2804 2005 2004 2005 201M 2005 2804 20D5 280420115 2004 2GH 2110421105 I..Gmbllllf .... Rllilln:ll 3.6 3.0 natCUI 3.5 3.0 IJoJdl TIB Rna:lllllilattllea 3.5 2.7 . . .CIIplal 3.5 3.1 AINADIIIJ 3.4 2.4 Canted of 8llllsh lndullly 3.4 2.8 Goldnatlldls 3.4 2.7 tiiOS Conaumer OUtput Prloes Prloes Index (HICP) f.l f.l 2.3 2..3 2.4 2.1 3.4 2.4 :u PeiDBnlllgB Change {yur-on-year). • " change 011 ~year 2080 2801 2082 2083 3,9 2.3 2.2 1.8 2.3 4.4 3.1 3.2 2.2 3.8 2.6 2.7 Company Trading Profits* .0.4 ·2.3 4 ..6 8.2 Manufacturing Produclfon* 2.4 ·1.3 -3.1 0.4 2.8 Retail Prices (underlying rate)" 2. 1 2.2 2.1 Consumer Prices Index (HICPr0.8 1.2 1.3 1.3 Output Prices* 1.5 1.5 .0.3 0.1 Average Earnings* 3.3 4.5 4.4 3.6 Unemployment Rate, % 3.0 3.8 3.2 3.1 Currant Acc:ount, £ bn ·19.1 -22.4 ·18.2 ·20.4 PubiJc Sector Net Cash Requhment, fiiiGal yra, £ bn -37.2 3.4 24.8 39.7 3 mth lntelbank, %(end ~ 3.9 4.0 5.8 4.1 10 Yr Gilt Yields, % (end yr) 4.4 4.8 4.9 5.0 Grose Domeatic Product" Household Consumption* Gross Fixed Investment* Year AYen~g~t Ann&a~Total Rate(%) Cumlnt Account (Ebn) 2004 2005 2004 200$ Unemployment 2.7 2.7 2.7 2.8 2.6 2A 2.6 2.6 2.7 2.7 2.7 2.8 2.8 2.7 2.8 ,. ,. na na 2.7 2.7 2.4 2.8 2.7 2.5 2.7 na 2.8 2.8 2.7 3.0 2.8 3.1 2.8 2.8 2.8 3.1 2:1 0.1 2.8 2.7 2.7 2.7 2.7 (Apr..., Public S.C. torNtltc.h Reqt (Ebn) FY na -28.8 ,.na -24.8 -24.7 -25.0 -29.0 ·27.4 -22.4 -23.4 -32.0 ·28.7 -24.3 -28.0 ·30.3 (%) End ,. 5.5 na 4.9 5.3 na na 5.0 5.3 5.1 5.1 5.2 5.2 5.4 5.2 na na na na na na na na na ,. na 33.0 38.0 32.0 38.5 35.0 38.0 34.5 32.5 26.9 38.0 35.3 32.0 ,. 30.0 39.0 30.0 36..8 38.0 38.0 -24.1 -22.6 -28.0 -31.0 -33.0 35.3 31.0 ·21.1 -31.8 34.5 ·20.0 38.0 -33.0 39.0 30.0 ·35.9 -22.1 na -24.0 41.0 48.0 -38.4 28.1 30.5 ·25.4 Rala(%) End ·31.1 38.2 38.6 -34.7 37.0 38.0 -28.0 38.0 37.0 -30.2 38.5 41.7 ·26.0 38.0 30.0 na '*"*"' FY Encl End 36..0 34.0 -20.0 40.0 41.0 ·32.0 38.6 43.6 ·33.1 30.0 22.8 -24.0 ·25.0 ·24.7 na -23.2 ·25.4 -27.5 -30.0 -23.9 -24.7 R8t.a on Survey Date 4.t% 4A Jmonth 10Year GRtYield 04-4)5 .....,. .1811'8$ Oct'85 Jaft'G5 Oct'05 ·20.0 -17.0 na na 2.5 -25.0 ·15.0 2.2 2.7 3.0 2.7 2.5 2.6 2.7 2.8 2.8 25 3.0 3.5 3.4 2.8 FilcaiYeara ,. 5.1 na 5.3 5.1 5.3 4.7 5.2 5.0 6.0 5.2 5.1 5.0 5.1 5.1 5.0 5.1 4.9 4.9 5.0 4.9 na 5.5 5.0 5.1 4.7 5.4 4.9 6.0 4.8 5.8 5.3 4.8 5.1 5.0 4.9 5.1 4.8 5.0 4.9 na 4.9 5.0 5.3 5.1 5.0 5.4 4.9 5.1 5.1 5.0 5.1 5.1 na na 5.0 4.8 5.2 5.0 ·4.8 5.1 5.0 4.9 4.9 4.9 5.7 5.3 5.1 5.0 4.9 5.3 4.8 4.9 5.1 5.0 5.1 5.2 ,. ,. na 4.8 4.8 4.5 5.1 4.7 4.5 na na 2.7 ·25.8 •27.4 35.3 38.7 5.0 5.0 s.o 5.1 2.7 -25.8 -27.8 35.4 35.4 2.8 -26.8 ·28.1 38.0 35.9 3.5 -20.0 -15.0 41.0 48.0 2.2 -32.0 ·38.4 26.9 22.8 2.8 8.3 3.7 5.5 0.3 6.3 4.7 0.2 5.8 4.5 0.3 5.2 4.7 0.1 5.7 4.5 0.3 ·32.8 -32.0 Direction ofTrade-2003 MeJar Impart 8uppllerl ...,.. l!lcporl Martlels (%of Total) (%of Total) United Sllllas Germany 15.8 10.5 France 9.5 Asia (Inc. ./BpM) 1.4 Easlem Europe 6.1 Middle East 4.2 Germany Unllad Slalas FJ'!!!C! Asia (IIIC. .-.nJ Ea8tem Europe Ali1al 13.8 10.2 8,1 13.6 5.4 2.8 Real Growth and Inflation The Beginning of a Slowdown? There Is growing evidence of a slowdown in the current expansion, as the housing market and consumer spending exhibit signs of coollng. Updated national ~n1s data show that the economy grew by 0.9% q-o-q In the second quarter- and by 3.6% In y-o-y terms - with the increase in household consumption revised down from 1.1% q-o-q to 0.6%. There was a similarly farge upward revision in the first quarter, from 0.6% to growth of 1.2%. Meanwhile, the increase In gross fixed investment was upgntded to 2.4% from 1.4% previously. The new figures show the recovery becoming less refl8nt on consumption, although given that consumer activity accounts for roughly two-thirds of GOP, it remains vlally Important to the ou1look. Therefore, recent da1ashowingretailsalesgrowtheaslngsomewhatfromafew months ago - coupled with faltering consumer confidence and confitmatlon that the housing market is losing some of its buoyancy - suggest that a period of more restrained momentumlnconsumerspencfmglsllkely.lndeed,ourpanel foresees a more modest gain in household consumption next year- 2.3%- compared with this year's expected 3.1% advance. In addition, forward..lookln indicators, such as the CBI distributive trades survey and the Purchasing Managers' Index for the services sector reveal more pessimistic expectations for the future. However, overall economic conditionsremainlargelyfevourable-aslsevidencedbythe consensus forecast of 2.6% growth in 2005- and positive data from the corporate sector showing rising profits have, in tum, led to a boost in our panel's forecast The muted nature of the past month's data releases lncludingaateep0.8% m-o-m fall in manufacturing production in August- led the Bank or England's Monetary Policy Committee to keep borrowing rates steady at Its October 67meeting. Thereporateremainsat4.75%,afterhavingbeen incrementallyralsedfrom3.5%1astNovember.And,withthe suspicion that the recovery may have peaked, an increasing number of analysts believe that the current cycle of interest rates hikes may be nearing an end. However, SUJVIng oil prices have resulted in an acceleration in producer output prices and remain a threat to price stability going forward. Ukelihood of a Bank of England Interest Rate Change Our panef's estimated average pf'O:bablllty of a change in the repo rate within the next 30 days fo1lowing the survey date was: lt«a:ASE DECREA9E tl) atANGE G.8 + 5&2 + Moat Hkafy rallt da1ge menlloned: " 1.0 a: 100% -+0.25% Short· and Long·Term Interest Rates -~ . .... ·-= 12 '• .... .!'··-.. ···- ... ... 0 0188 Q3P 01. 0310 Q1r2 Q38l Q1t5 ••~••M~a•~••v•••~~~~~~w"" -Real GOP % --- Consumer Prices - a Mlh lnbllbank Rate . .··-... . ···...... I a. 0111 Q3l8 0101 Q30l 0101 Cao5 - - - 10 YrGII! Yield 13 Average% ChMgeon Plwioul CalendlrY... Grass Houleltokl DomeeCic Product Comlumptfan PnMIIIftD lnllmol.onlo EoonomlcForac..... 2804 2005 Bank of Amldca Conflndullllta 1.3 1.3 ISAI! 1.3 Banca lntele EcDn lntelliga- Unit Clignlup Flat SpA Golc:lmln 8acha lNG ffnlnclaiMarlllta 1.2 1.2 1.2 1.2 1.2 1.2 1.2 1.2 1.2 1.2 1.1 1.1 1.1 1.1 ......... lmiNIImentl FluiLonll 2004 2885 2004 2001 2004 2HS tA 1.3 1..9 3.8 3.2 3.0 3.5 2.8 2.8 3.9 2.6 2.2 3.4 na na na ne ne C--' 2.1 1.8 1.•9 1.5 1.8 1.8 2.1 1.8 1.7 1.8 1.5 1.8 1.5 1.2 1.2 1.7 2.0 1.5 2.1 1.8 1.4 1.3 1.3 1.4 2.4 2.2 1.5 1.0 1.8 1.8 1.9 1.0 1.9 1.8 2.3 1.8 1.7 1.3 1.7 1.7 2.0 1.7 1.5 2.0 2.4 1.9 Comlensua {lllln) 1.2 1.8 1.4 LutMantb'a.._.. 1.2 1.1 1.3 t.O 0.1 1.6 1.5 1.9 0.2 1.5 1.8 1.2 0.2 1.2 1.2 1.4 0.9 2.1 2.1 1.9 1.9 1.5 1.5 1.3 1.0 IW. UniCNdlt Banc:aiWIIIID Bancall Capltalla Centlo Europa Rlcen:he FN.In&tltut Promellla ENI .. aMonilia Aao Low 8llndard DeviiiUon 1.1 lndUetrial PnlduOtloa delle,.,. 1.3 1.3 1.4 1.2 1.2 1.4 1.5 1.8 1.5 Molgan Stanley Gioia Flllld lnveslll•lt 2.3 1.5 ~ lndwlrWe PnHIUcer Prtces Plicts ,.,. PlfiJl&f lllC-...o Conlraatual ... f'f'tltlulrlfln HOfAI'lV Ellrnlnp Rebtlilazfal» Otw6t ConttaUuafl 2.9 2.0 3.2 1.9 3.2 3.4 3.4 3.3 2.8 2.4 3.0 2.3 2.6 2.8 3.5 2.5 2.9 2.8 na 2,0 2.4 2.8 2.2 2.2 2.5 2.3 2,0 u 2.3 2.3 2.1 1.8 ne na ne I'll 2.4 2.8 2.5 2A 2.2 2.8 na 1.3 3.3 2.8 2.7 na na na 2.5 2.5 3.3 2.3 1.8 2.6 2.7 2.6 na na na 2.0 2.1 2.1 na na na na na 2.9 2.4 0.9 2.2 2.5 2.8 2.0 2.6 2.1 2.4 1.8 2.7 2.5 1.8 1.6 3.3 0.9 0.7 2.7 2.6 3.0 2.4 0.2 na na 0.6 0.7 0.5 2.2 2.1 2.3 1.8 2.8 3.0 0.5 2.1 1.9 1.9 2.5 2.4 3.8 1.9 2.8 2.7 4.8 2.1 0.6 0.7 1.0 1.1 0.1 0.3 2.2 2.3 4.0 0.8 0.8 0.5 2.1 2.1 2.1 2.1 2.0 2.1 2.3 2.3 2.4 2.3 2.3 2.3 2.4 2.3 2.4 1.9 2.2 2.3 2.3 2.2 2.3 2.3 2.3 0.8 1.2 1.3 2.8 3.1 1.3 1.8 2.7 4.0 2.2 2.8 1.6 2,0 2004 20H 20M 2005 1.7 1.7 2.4 2.8 ne ne ne na 2004 2005 0.1 0.7 0.5 0.5 0.2 0.7 0.2 0.3 0.3 0.2 1.1 0.5 2.1 3.8 2.9 4.6 2.7 3.1 2.8 3.3 3.2 1.3 0.3 c-umer 1.1 na na 2.2 3.0 1.0 1.5 1.8 2.8 na na na 2.9 2.5 ne na 2.4 1.6 2.2 2.3 2.4 1.3 2.3 2.1 2.2 2.3 2.4 2.1 2,0 2.5 3.3 2.2 1.6 0.1 1.9 0.2 2.1 1.6 0.5 na na 2.8 2.5 2.5 2.5 2.5 2.7 2.0 0.2 Compalllon FOIIICIIIIls ~{JuL'M) Erut CommiN1on (Apr. '04) IIIF (Sep. '04) oeco (May '04J 2.1 2.1 2.1 2.4 1.9 1.8 3.8 0.0 Government and Background Data Prime lllnl..., • Mr. Silvio Bel!usconi (Forza ltalla). hl1lllment • A centr&-right c:oaltlon, known as the C... til* Llberls', has~ In both the Ql8lllber d DepuUas (loww house) and the Senate (upper house). Next Elec:ttons • by 2008 (partiamenlaly). Nominal GOP • Euro1,301bn {2003). Populllllon • 57.4mn (mlcl-ye•, 2003). SIEUI'O Ellclumge Rate. 1.131 (average, 2003). Quarterty Consensus Forecasts HistoticB1 Dais Slid Fotecasls {bolcJ ltsllcs) Ftom Sutvey of SfJplllmlw 1.\ 2IIIU 2004 2005 2006 Q1 Q2 Ql Q4 Q1 QZ Q3 Q4 Q1 Q2 Grusa Domestic Product 0.8 1.2 1.1 f.l f.li 1.1 1.1 ~~ 2.1 2.1 Household Conaump11on 1.7 1.0 1.1 f.f 1.1 U Conaumer Prtcils 2.1 2.1 2.1 2.1 2.2 2.4 2.3 2.4 2.4 2.1 2.2 ~· 1.1 f.9 3.9 3.3 2.4 5.2 Historical Data 2000 2001 .,~dtaltgeotlpnwiou$yeflr 2002 2003 Gross Domestic Product* 3.2 1.7 0.4 Houuhotd Consumption* 2.8 o.8 0.4 1.2 Gross Fbced lnvesbnent* 7.3 1.6 1-.3 -2.1 0.4 lndustrfal Production* 4.1 ·1.2 -1.3 -o .4 ConsumerPI_icea* 2.5 2.7 2.5 2.7 Producer Prtces- 6 .o 1.9 o.2 1.6 2.5. 2.1 2.2 ContracluaiHowtyEamlnp*U UnemploymentRate,% 10.6 CUrrent Account, Euro bn ·6.3 Stale Sector Borrowing Requtrement, Euro bn -27 A 3 mth Euro, % (end yr) 4.8 10 yr Italian Govt Bond, 5.2 %(endyr) 9.6 9.0 8.7 -4).7 -10.0 -16.4 ·33.5 -30.8 -42.7 3.3 2.9 2.1 5.2 4.3 4.5 iCIIIJtlge 14 0 Copyright Consensus Ecanomlcs Inc. 2004 Veer Averaga Unemploy- -.t CUnwnt Accolmt Rldle('IC.) (Eurobn) T-t/1 Rates on aurwy Date 2.1% 4.1'1C. Annual TOIIII atawSec:tDr Botnllwllll 3month Euro 10YNI' ltalilln Govtlond ,.,., ,.,..,_ ........, c.,.,., a...m. ,_,. ,.,.,. .......... ..Rldll(%) ·~bn) F~ Ylelll(%) 8ufllll de/Ta.w lrme('J6} _.,.,("J (Elnmlfl} f'%) 2004 2005 2004 2005 2004 2005 8.2 na na na na na na na na na na na na na 118 ;-e1.1 -69.0 4.7 4.9 na na na 8.1 ·21. 1 -19.3 7.8 ·19.4 -18.8 8.1 na na na 8.4 8.1 8.8 8.2 8.0 8.6 8.4 8.1 7.7 8.0 7.9 8.6 8.2 8.4 8.3 -11.7 8.6 8.2 8.2 8.4 8.6 8.5 8.1 8.2 8.1 8.6 8.4 8.5 8.6 8.4 8.6 l.=.s:OS ~::,. na na na 2.2 2.7 na na na ·na -14.0 -16.0 -62.0 -69.0 ·18.0 ·16.0 52.0 ·56.0 2.2 2.3 2.6 2.8 4.5 4.6 na na na na na na na -19.5 -18.8 ~.8 -51.0 -14.3 ·13.8 na na -15.6 ·17.8 l-61.i ·58.6 ·19.7 -22.5 52.0 -&1.4 na -18.5 ·14.5 -18.9 ·17.2 8.0 -24.8 8.3 -12.3 na na na -1U 58.0 -51.0 -14.0 -60.0 ~ -18.8 na na -14.4 na na -21.7 -61.3-59.0 -8.1 -54.8 -81.5 8.4 8.2 -17.3 -17.0 8.6 8.8 8.6 8.1 0.2 8.4. 8.4 8.8 7.7 0.3 8.7 8.6 8.3 8.6 8.2 8.5 8.2 8.5 ·17.0 -17.3 -17.9 -17.6 ·11.7 -8.1 -24.6 -22.5 3.5 3.8 118 5.0 5.1 na na 118 na 2.1 2.4 2.3 2.1 2.1 3.0 2.8 2.8 4.7 4.3 4.2 4.4 4.7 4.7 4.8 4.4 na na na na 2.4 2.1 2.2 2.7 2.6 2.6 4.4 4.3 4.3 4.i 4.6 4.8 na I'll na na 2.1 2.1 2.4 2.4 4.4 4.4 4.8 4.8 57.6 -80.1 2.2 2.6 4.4 4.8 5'$.1 -58.8 ·6&.0 -51.0 -69.0 4.3 6.4 2.4 2.1 0.1 3.0 2.1 0.2 4.7 4.2 5.1 f.ss.o 52.0 f-62.o 0.1 4.4 0.2 More Mixed Signals Data releases over 1he past month have reaffirmed the Impression that, while the d~ economy is growing moderate~ it remains devoid of any significant positive momentum 1hat could lead to a more vigorous phase of recovery.lndustrial production, for Instance, rebounded in July, rising by 0.4% m-o-m after two successive months of decline. However, the underlying trend remains fairly weak. with little more than a gentle increase in production now likely for the year as a whole: the consensus forecast points to a mere 0.5% advance. Turning 1D the oonsumer sector, retail sales declined by 0.4% m-o-m in July following June's 0.6% increase. This is a notoriously volatile Indicator, but it does suggestthathousehold consumption startedfhefhird quarter in a similar vein to 1he second, when a detelioration in sentiment led to a fallof0.3%q-o-q. Consumer confidence, though, has strengthened over the past few month& and, despite still being at historically low levels, reached Its highest point this year In Sep1ember as perceptions of economicactivltylmprovedandoonoemoverirdlationabated. This is likely due to a government initiative aimed at boosting consumption which (with the agreement of some large retailers and supermarkets)wlllfreeze prices of certain food products. Consumer price mflation eased In September to 2.1% y-o-y-its towestrateoflncrease since December 1999 - from 2.3% in August as transport costs fall (m-o-m} foftowlng the previous month's oit price-Induced surge. Thegovemmenthasapprovedthe2005budgetwhlch Includes C24bn in deficitof8duclng measures that, it Is hoped, wiD keep thedeficitundertheEurozone's3%ofGOPcei6ng.Without these steps...:which Include capping government spending at 2% in most departments and the selling-off of government assets -1he deficit would reach 4.4% of GOP In 2005 (as estimated by the Treasury), ln&teac:Softhe2. 7%nowpredictec!. Manyeconomlstsdonotshareasoptimisticanassessment of these plans as the government but, nevertheklss, moves 1D slow government expenditure have been welcomed as beneficiai1Dihelong-termheallhofpubllcfinanc:es.However, efforts to stimulate consumer spending by cutting taxes by £6bnwerenotincludedin1hebudget.althoughlhegovemment haa said they will be Introduced by the end of the year. Short• and Long-Term Interest Rates Direction ofTrade- 2003 Major I!Jiport . . . . . . (f. of Total) Germany 13.8 France Unl!!9 States &stem EUIO{HI Asia (tile. Jtlpan) MJddle East 12.3 8.5 13.5 5.9 4.8 (llhOff IBte • 3 mlh T-.y Bill for Q1861c 0498} MaJor Import Suppliers (% of Total) Germany France N!!h!rtand! &atem Europe Asia (Inc. .leptm) Mltlcf'- Eat 17.9 11.2 5.8 12.0 7.8 5.0 Real Growth and Inflation % 18 16 12 10 8 8 4 2 0~~~~~~~~~~~~~~ Q186 Q288 Q380 Q492 Q195 0297 Q399 Q401 Q104 ••~•••~a•~~•w••"~~oo~~~~~M - RNI GOP (f. chg yoy}- - - Consumer Prices (% chg yoy) 0 Copyright Consell!lll Economics Inc. 2004 - 3 Mlh Euro Rate - - -10 Yr GOYt Bond Y"181d 15 Annual Avtn~•% Cheng~ on Pmlioul ClllendarYew GroN Domeslc Product ,,.., Ptotlulf Brut Economic Forec:utars JPMcugan Pwsonat llachlnery Pre ·Tax lndUitrlel Expencll- & EquipProlll Praducfiaa ment tuN ·!!! ,., s:!JJ,.. =:11. Product~~ 4.1 3.6 3.3 3.2 3.6 3.2 3.3 3.4 3.5 3.5 3.1 2.9 3.0 Consensus (lilian) 3.0 3.4 3.3 3.0 7.9 9.0 16.2 .... Month'alleln 3.3 3.4 0.1 3.0 3.1 3.7 2.4 0.4 14.7 8tana'd DIMatlon 3.3 3.3 3.4 3.0 0.1 e.o Low 2.9 2.9 3.2 2.9 3.2 2.6 3.1 Natlonala.nk Flnenclal rrORmtoOomlnlon Bank Bank of MontNal C...deo.pot CI8C Wlmd Mlltcets 311onths Ago High ~ F'ol8aasta IIF (8ep. '04) OECD(MllY'M) 3.2 3.7 3.2 3.4 3.4 3.0 2.8 2.4 3.0 3.1 3.0 2.7 3.5 3.2 3.2 18.5 11.7 19.9 3.1 16.0 5.5 17.8 6.5 13.5 7.5 13.5 4.5 17.5 -4.5 17.5 8.8 15.9 4.4 16.2 3.7 2.5 2.4 ~lnalght 3.3 3.4 3.3 3.3 3.3 3.3 3.2 3.2 3.3 3.4 3.3 3.2 3.2 8.4 8.7 8.0 7.6 7.3 lnfonnetdca Mlntll Lynch C8nada UnMnlty of Tonmto BMO Nelbllt Bums Conf ..... of Canada Dslljanllns &DC Economlc:a a.o 4.1 2.9 0.3 2.11 3.1 2.8 3.3 2.8 3.1 8.3 8.0 8.0 7.8 7.6 8.0 7.2 8.0 7.6 8.1 7.3 10.0 9.0 8.3 7.4 7.1 11.4 10.3 8.8 9.1 7.5 8.6 15.0 7.6 9.0 na F'rodtiiD ~ ,_,. filion units) - I. fU 2004 3.7 3.2 2.1 3.2 2."1 Consumer Prices 0.8 2.2 u na na na na na na 3.2 2.7 1111 1111 1111 1111 na na na na na na 2.1 1.8 1.9 1.9 1.8 1.8 1.9 1.8 1.8 2.0 1.9 1.8 1.8 1.9 2.8 2.0 1.9 2.3 2.1 1.6 2.1 1.9 1.4 2.2 2.4 2.1 1.9 2.0 2.8 1111 1111 1111 na 1111 1111 3.7 3.9 4.3 3.0 0.8 na na 3.2 1.9 2.2 2.7 2.9 3.5 1.9 2.5 2.4 3.4 a.o 3.1 ·U na na na 228 206 222 200 225 200 225 196 226 206 225 195 224 2!.11 230 205 225 200 222 190 na na na na na 1111 na na 1111 1111 na na ,. 4.3 3.0 na 2.7 na 2.9 1111 na na na na 225 200 226 195 219 189 226 190 224 183 na na na na 1.8 2.6 2.8 225 197 3.4 3.0 3.8 3.2 0.3 1.9 1.8 2.1 1.8 0.1 3A 2.2 2.7 2.5 4.3 3.0 3.1 ·1.8 0.5 1.9 2.7 3.0 3.2 1.9 3.5 1.9 0.8 224 196 .221 192 230 2U7 219 183 7 2 1.9 4.7 na na 3.6 3.5 5.0 2.7 1.0 2.0 2.0 2.6 1.4 0.3 o.s Ill 1.9 2.2 Historical Data 2006 a2 Q3 a• a1 a2 :u 3.1 na 3.8 3.8 01'088 Domestic Product 1.7 3.0 3.4 3.S 3.1 3.3 3.2 3.1 3.11 3.11 ExpenditUre na 3.3 2.9 1.9 2.4 1.9 2.1 5.9 5.1 12.0 5.1 19.9 15.0 13.6 -4.5 8.8 7.8 8.6 8.7 15.0 7.2 6.6 0.4 2.1 2001 a2 Q3 a• a1 na 3.6 6.0 3.4 3.7 Quarterly Consensus Forecasta HistDtlcal Data Btld FoteaJsts {bold ftslk:s) From Sl.uwy of Septstrrbtlr 13, 211114 3.1 3.11 2.4 2.4 2.0 1.1 1.8 u u 1.1 Pen;entsge Change (year~) 16 .. .,,.,,. IUmunlr· 8tllrt8 (U.ouMRCI 3.8 4.5 3.3 3.4 GovemmentandBackground Data Personal ,. tfowly l'!amnp HOU-!"1 17.5 8.4 13.5 15.0 na na 15.8 2.7 Prime lllnlater. Mr. Paul Martin (l.lbenll). GcM1111'1M11t. Thll..lb4mlla lead a minority gowamrnant. wlltl136 out of 308 seals in palfiament (156 seats are neajed for a cte• majority). Nat Election ·By 2009 (ge!alll elec:flon). Nominal GOP • C$1,2111bn (2003). Poplllallon • 31.5mn (mid-year, 2003). C$1$ Exchange Rate • 1.401 (-.ge. 2003). Q1 l'rfJcla "'lrtdus,.,. Con•om,., Awrap 2004 20IS 2004 2005 20042001 2004 2005 2004 2005 20042005 2004 20116 2004 2005 2004 2001 3.2 3.1 3.0 3.0 3.0 3.o 3.0 3.0 3.0· 2.9 2.9 2.9 2.9 2.9 2.9 Royal link of Clnada Total Coneumer lndustltal Product Prtcn Pltcel • " change on pn~l4oua Yflll' Gross Domes& Product" 2000 2001 2002 2003 5.2 1.8 <4.0 2.7 Per$onal Expenditure• Machinery & Eqpt Investment* 6.3 -2.2 22.8 -6.9 Pre ·Tax Profits• 7.2 -2.3 Industrial Production· Consumer Pricee• 2,5 2.7 lnduatrtal Product Prtces4.3 1.0 Av_.. Hourty Eamlnv 2.0 1.7 Housing Statts, '000 units 152 163 Unemployment Rate, % 6.8 7.3 CUrrent Account. C$ bn 29.3 25.0 Federal Govt Budget BaWH:e, fiscal years, C$ bn 20.2 7.0 3 mth Trsy SIR, % (end yr) 5.5 2.1 10 Yr Govt Bond. % (end yr) 5.4 5.4 e .. ~ N#1llate baaed on lslest SUIV8Y 3.4 3.4 -1.2 8.8 2.<4 2,3 0.0 2.2 205 7.7 22.7 7.0 2.7 4.7 2.0 3.1 4.5 10.0 0.3 2.8 -1.4 1.8 218 7.7 23.8 3.5. 2.6 4.8 o Copvright Consensus Economics Inc. 2004 Rates on likltWY Dar. 4.6% 2.1% 10Y.., Federal 3month ~.audlet Treuury Gowtnmant Balance Bond (C$bn) Yl8kl(%) Rldl(%) Annual Tollll FtsolfYelnl (~ Current Account (CSbn) UnemploJ· ment Rata(%) T-· ......... CMntllge (%} 20D4 2005 7.2 7.3 7.2 7.2 7.3 1ludgMa/le (Cimd} duTtM«tle 7.1 7.2 7.0 37.5 35.1 4.3 4.2 7.3 7.3 4.7 3.7 7.0 4.9 4.1 8.2 3.0 3.0 0.1 0.1 36.8 34.9 41.7 32.0 4.0 33.0 30.8 7.1 7.0 7.1 1.2 6.8 1.3 1.0 7.2 7.3 7.3 7.3 7.3 7.3 7.1 7.2 7.2 7.3 7.2 7.3 6.9 6.8 7.2 7.2 7.1 7.0 7.1 7.2 7.2 6.9 7.{) .,._" t c:.o:=- .lmola" FY F'f End End End End 2GOC 2005 N-85 05-06 JM'05 Od"'Oi Jlm'85~Qaftlfl 49.0 43.2 42..5 46.7 36.5 29.0 40.8 40.4 36.8 38.6 33.0 30.0 47.7 62.1 36.9 26.5 35.7 30.3 35.0 26.5 32.o 25.0 38.0 •34.2 35.0 28.0 34.7 28.0 $7.8 36.7 7.2 6.8 7.0 7.0 BaiMce Countnae (Cimd} .._,..,_ 62.1 25.0 9.9 4.0 3.0 na na 4.0 6.2 4.0 4.5 3.0 5.0 3.2 4.0 6.2 5.5 4.2 3.0 5.0 3.0 3.0 3.0 3.0 3.0 4.5 3.6 3.8 3.3 3.4 3.3 3A 4.0 4.1 3.4 3.3 5.4 4.9 4.8 6.2 5.1 5.2 6.3 5.0 5.9 5.5 5.9 5.4 5.4 5.8 2.8 4.8 5.2 5.3 5.o 5.0 5.o 4.9 4.4 3.8 5.1 4.2 5.6 na na na 3.0 3.8 5.0 5.$ 2.9 3.6 5.0 5.4 3.0 2.5 0.2 4.5 2.9 5.8 4.4 0.3 4.2 0.6 2.6 na na 7.0 3.0 3.9 na 4.0 4.0 4.0 2.5 3.0 2.8 3.0 2.8 2.8 2.8 2.8 na na na na 0.4 5.0 6.3 6.8 7.1 Direction ofTrade-2003 M.for Import Suppliers (%of TGlal) United Slalea Japan (%of Tabll) 86.4 A$llt {U. Jllpa/l) LetJn Anledt;w 2.1 1.5 3.2 1.4 MJddle East 0.4 United Klnpdom United Slate$ China Japan Asia (.X. Japan) Latin AlrNJrica Af11ca 61.2 6.3 4.1 11.2 5.6 f.2 Real Growth and Inflation ;:s \-. /· - -,_/· . .. . . . . :1 ,. .··\~ •••• •• • ;_ 0~1 •I " - revenues. In addition, indus1rY remains firm, with production rising by0.3% m-o-m in JulywhDe new manufacturing Oltlers jumped by 1.4% m-o-rn. Shipments as a whole were a little moremuted,risingbyonly0.5%m-o-mcomparedwlth1.5% in June, but the data stiUaugurswelfor1hlrd quarter industrial output data and, indeed, forecasts for production next year have also risen. · There are sO(I'Ie downside risks to the growth outlook, however. First of all, analysts remain mindful of economic fundamentals In the US (Canada's most important trading partner), where the economy traversed a soft patch during the second quarter. Although signs suggest that activity south of the border is beginning to pidt up pace again, the sustained Fenglh of petrol prices could rein in US growth once more, thereby hurting demand for C8nadlan exports. Secondly, high oR prlcas are also focusing the spoUight on theinfletlonoutlookandunderscoringexpec::tationsofanother interest rate hike by the Bank of Canada at Its next meeting on October 19. Consumer prices ac:tualy fell by 0.2% m-ominAugustwhUethey-o-ytrendlncoreinflationeasedfrom 1.9% in July to 1.5%. However, more recent surges In oil prlce&oouldlfftcor&prlcepressuresagain.lnftationforecasts for 2005 have edged upwards. llllor Export . . . . . . 4 Growth Expectations Edge Upward Despite a dJsappointing monthly GOP rele8se for July, the outlook remains upbeat and GOP growth forecasts for 2004 and 2005 have been upgraded this month. Output-based GOP managed only 0.1% growth m-o-rn, compared with 0.4% in June, and the y-o-y trend slowed from 3.5% In the previous month to 3.1~. However, data from preceding months were re'Viaed upwan:la, which bodes well for this year'soullook.lnaddltion, manuracturlngandgoocls-produclng industries helped to support aetMty. The weakness in the July flgu'" came mainfy from the non-business sector, while tourism was affected by a stronger C$ and border delays. Despite this, GOP growth is expected to remain robust going Into the third and fourth quarters. In fact, the economy Is benefiting from positive terms of trade which have been buoyed by strong commodity, energy and oft p~s and are undoubtedly helping to supplement export Ukellhood of a Bank of canada 1nterast Rate Change Our panel's estimated average probability of a change In the overnight lending rate at or befo,. the next key policy meeting following the suryt;ty date was: INCREASE ao.t Reel GOP (% chg yoy) - - - Consumer Prices (% chg yoy) 0 Copyright Consensus Economics tnc. 2004 DECREASE 18.1 + Most likely rata change mentioned: • 100% 0.2 +0.25% Short- and Long-Term Interest Rates % w 12 10 8 • 2 0~~~~~~~~~~~~~~~~ 01. ••~••~~~•~••w••~~m~~••M~s NO CHANGE + - 01. 01111 011! 01t4 01111 01111 01110 0102 0104 3 Mlh TreBSU'Y BID Rate - - -10 Yr Govt Bond YJeld 17 n..I!!.UICO ZOite '-: ~ ~,.....% Cballp on Pnrwloua Callnder Ylllll' Belglum. Flnllltld, Ffaflt:e, 0.~ GrfHICft, lnllllml, Groes and.,.,. Italy, LuumbCNU1L Nefftet. Dol..ac , . , l'ltNtllpl Pltvale Con- PftMluct sumpaon Gross Chanp'" Con. Ffud lnvnt· -..t Blink Julius Beer ColllllltiiZbank ETLA 2.0 2.0 1.5 1.4 0.7 1.5 1.4 1.3 0.'1 1.1 2.2 1.5 1.1 1.0 1.6 1.8 1.1 1.4 1.-4 3.1 1.8 1.! 0.9 1.3 1.2 1.6 1.6 1.6 1.0 1.2 1.3 1.6 1.8 Ul 1.4 1.4 1A 1.2 1.5 1.8 0.9 1.6 1.8 1.8 1.8 1.6 1.0 1.8 1.6 1.1 1.5 0.9 1.1 1.5 1.8 1.0 1.4 1A 2.1 1.5 1.8 0.9 1.5 1.5 0.9 1.5 1.2 0.9 1.4 1.0 1.3 1.5 1.6 1.1 1.5 1.4 1.0 1.5 1.3 0.7 1.5 1.2 1.0 1.8 1.7 1.2 1.3 0.7 2.0 1.5 1.6 1.1 1.0 1.3 1.2 D!HdnerBank European F'oeat Network Lehman Brothen OxtonJ Eoon l'orecltltltig UnlCnldl hftGII MobDiare WeatLB BBVA Uoycls TSB Flnenclal Mltcts 1.8 1.8 1.8 1.8 1.8 1.7 1.7 2.0 2.0 2.3 1.7 COIIHIIIIUS (Mean) 1.9 2.0 1.3 1.7 u ·1.4 1.3 2.9 Lui Month's Mean 3MontMAgo High Low 1.8 1.7 2.0 1.7 0.1 1.3 1.3 1.7 1.1 0.1 1.4 1.2 1.8 0.7 0.2 1.4 1.4 1.8 0.7 0.3 2.0 2.2 2.0 2.1 2.0 2.3 2.0 1.8 1.8 2.2 1.9 2.0 1.8 2.0 1.8 2.3 1.8 2.0 1.9 1.S 1.9 2.1 1.8 2.3 GNpo SaftUincler GoldiNift Sacha Eoon Intelligence UnH Cnldlt AJrtaote FAZ ln.tltut Foltle Bank Global Insight HSSC lNG Finnctal......._ JPMo"an Merrill L,Jnch 1.8 2.2 SE8 1.8 1.9 1.9 1.8 1.8 1.8 1.8 1.8 SoaieteG~ U88 Morgan ltMieJ hnkAU11rta Bank ot Amettca .......... CDCDUS Deuteche Blftk 2.1 2.0 1.7 u 1.5 2.1 2.3 1.5 1.8 1.8 2.1 1.8 standard Oevlatlon 1.9 1.7 2.2 2.0 2.0 2.3 1.5 0.2 Compartaon· Fo~ Euro Commlalion (Apr. '04) 1.7 2.3 .f(Sep.'04) 2.2 2.2 OECD (May '04) u 2.4 u 1.8 1.9 2.1 1.1 0.2 1.8 2.3 1.5 2.1 1.3 2.5 are unllecJ by a common c:urrency (lhe euro), rnon1111ry poPcy anct adherant:e to the Maastricht Tntaly. 111-wy Poley - Is 1111t by the European CemaiBank'a (ECB) geMming board, headed QJIT8nUy by Jean Claude Trichal Nomfllal GOP • Euro7 ,255.9bn {2003). Pop\lta• don - 306.5mn (mid-year, 2003). $IEUrD l!lcchanft Rate • 1.131 Quarterly Consensus Forecasts H/stOdcal Data and Forecasts (bold italics) From SciMty of lndulldal Prien Produclr PrieN 2004 2005 2006 Qt' Q2 Q3 04 Q1 Q2 Q3 04 Q1 Q2 Gross Oomeatlc 1.3 2.0 2.(1 2.1 u 1.1 U .,. ~~ .,. 4.5 5.7 2.2 2.5 2.5 2.8 3.7 1.4 0.5 .,. HourtJ Year Avente UnampiDJ- Labour meld bel(%) CCMdl Z.f 2.1 2.1 2.0 1.1 1.1 1.7 f.l 1.1 1.0 2.0 1.7 2.3 .2.3 2.2 2.1 1.7 f.7 1.1 1.1 u PercerUge Clwnge {year-on-year). 2.9 2.5 2.4 3.0 2.8 2.5 9.0 8.0 8.0 8.7 9.0 8.9 na na na 2.5 2.8 2.7 2.5 I'll I'll 8.8 2.5 u 8.8 2.4 2.7 2.8 9.0 9.0 9.0 8.0 8.8 8.0 8.6 Ill 9.0 8.9 9.5 9..0 8.6 Ill na 2.8 3.0 Ill na 2.8 3.2 2.7 2.8 na .,.na 2.3 1111 2.5 na 8.9 na 8.8 8.9 8.0 8.9 1111 2.3 1111 2.9 9..0 na 2.5 1111 2.7 2.9 na na 9.0 9.0 8.9 9.0 8.9 8.0 Ill 9.o 2.6 1111 2.5 na 2.4 Ill 2.2 2.5 8.7 8.8 9.2 8.5 8.8 8.8 8.7 8.4 8.8 8.8 8.8 8.9 8.8 8.5 8.8 9.0 8.6 8.7 8.0 8.8 8.8 8.8 8.8 8.7 2.2 2.2 9.0 8.8 9.0 1.8 1.7 2.5 2.7 9.0 8.8 2.1 1.8 1.7 1.(! 2.1 1.8 1.6 1.5 2.2 2.1 2.3 3.1 2.5 2.8 2.8 2.2 0.2 2.7 2.7 3.2 8.0 8.9 8.5 8.8 0.1 0.2 8.8 9.0 8.8 8.8 8.7 8.5 2.1 1.8 2.1 1.4 1.1 1.0 0.0 0.2 0.3 0.5 na 1.8 1.6 2.1 1.9 •" Mllllilf Gfl~ , _ , Grose Oonteallc Product" Prtvale Conal.tlftpllor !0: 3.5 Gcwemment c-tlmplkln* 2.7 2.1 car- Ftxacl Capital Formlfloll" 4.9 Change In lmlanlorlea, Ewo bn Industrial ProductlOn" Consumer Prices• lnduatrfal ~ Prtcea• HOUI'Ir Labour Coats* ~13,20114 18 loll 1.2 1.3 2.4 3.6 1.5 1.5 2.1 3.4 1.2 1.0 2.0 4.1 Eurozone· The twelve EuropeanCXIUIIIriea(li&lacl atthetopoflllla page) Consumer PrlcH (Etnbn) 1.4 3.0 7.3 8.8 2.1 1.6 3.1 18.4 18.6 2.0 3.1 4.0 20.1 28.2 2.7 0.7 1.3 -5.5 -8.2 1.5 0.6 0.6 8.2 8.8 0.3 EuRtP881' Monetary Union Con811mptl011 0.9 1.1 lnwento- Product- 1.3 -5.5 ·8.2 2.0 u 2.1 2.0 1.8 1.4 3.2 2.0 13.0 2.3 2.8 2.1 2.0 1.8 2.0 118 2.8 na na 2.1 2.5 2.1 1.8 3.7 na na 2.1 1.7 na na 3.2 2.7 3.3 2.1 1.8 2.1 2.3 na Ill na Ill na na 3.5 na 2.3 5.1 10~ 2.2 2.3 2.1 1.9 na na 3.0 na na2.2 2.5 2.1 1.8 1.6 1.5 3.7 -3.0 -8.0 2.1 u 2.2 1.7 2.1 1.9 3.3 Ill Ill 2.0 2.8 2.1 1.9 1.8 1.7 2.0 Ill na na na na na na na 2.3 18.0 18.0 2.3 2.7 2.2 1.7 1.8 1.8 3.3 3.8 5.3 2.'1 1.7 2.1 1.8 2.3 2.2 3.6 na na na na 2.1 1.8 na na 3.0 5.0 3.0 2.0 u 2.1 1.8 1.8 1.5 2.8 ·1.5 ·5.5 I'll 2.1 2.1 na 2.8 118 na 2.8 2.4 2.1 1.8 2.Q 1.3 2.3 0.0 .0.1 2.1 2.0 2.2 1.9 2.2 1.8 2.0 13.0 s.o 2.3 2.2 2.1 1.7 1.5 1.7 3.2 Ill na 2.5 2.8 2.1 1.7 na na 3.0 0.9 0.0 2.2· 3.7 2.2 1.8 1.8 1.7 2.7 0.8 8.0 na Ill 2.2 2.1 na 1111 3.0 na 1111 2.0 2.5 2.1 1.7 2.0 1.5 3.1 Ill na 2.3 3.0 2.1 1.7 1.8 1.8 3.0 8.5 14.5 2.3 2.4 2.1 1.9 na Ill 1.7 5.7 12.6 1.9 1.9 2.2 1.4 2.2 1.5 2.8 3.9 6.1 2.4 3.0 2.1 1.7 2.3 3.1 3.8 na 1111 118 na 2.2 2.0 Ill na 4.0 7.0 8.0 1.5 2.3 2.1 1.9 1.7 1.0 3.5 1.8 1.6 2.2 2.5 2.2 1.9 2.3 2.3 2A 20.1 28.2 1.9 2.2 2.1 u 1.1 1.1 1.1 1.5 1.3 1.8 1.3 1.7 1.3 2.0 1.2 1.6 1.7 2.1 1.2 1.8 1.4 1.8 1.3 2.0 1.3 1.8 1.3 1.5 1.4 2.0 1.1 1.7 1.8 2.0 1.2 1.5 1.2 1.8 1.1 1.4 1.4 1.7 1.4 1.3 1.2 1.8 1.2 1.8 1.1 1.1 1.3 1.8 2.1 1.3 1.8 1.3 1.8 1.3 2.1 1.3 1.9 1.3 1.7 1.2 2.0 1.4 1.8 Privata .... Ylllll' 20M ZOOS 20M2005 2004280! 2004200! 20042015 iiM.a- 200421188 20042005 . . . 2005 2004 2005 econ-tc FCINCIIIfall Product '=' GeM A...,.% ChanponPtwloul C.ndar U1111mp~orment Rata.(%) Exports • Goods & Services• Imports -Goads & ServlcM· Current Account, Euro bn General Govt lktdpt Balance, Eurobn Money Supply,ll3, end period" na 2.2 0.3 8.9 8.8 8.7 9.2 8.4 2001 2002 20Da 1.6 1.9 2.5 -o.3 0.6 0.6 3.1 -2.7 10.8 -22.7 -28.7 0.4 -0.5 5.3 2.1 2.4 2.3 2.0 -o.t 5.3 0.5 1.0 1.7 .0.6 -6.2 0.3 2.1 1.4 3.2 3.6 3.5 3.0 8.4 8.0 12.3 3.4 8.3 1.7 0.3 53.4 8.9 0.1 11.0 1.7 -79.1 -17.2 12.3 4.1 -115 8.1 ·167 6.9 2.1 24.2 -197 7.0 ..., . , . "Chatlp 011 Prerious calendar Year ~of Imports of Goods ~ Services GoocJaa a e.= Annual TCital Cumtnt Account (Eurobft) Money Genend Govtlknlpt Sllpply,IJ3. end period Balance t~;umhn\ 2004 2005 2004 200$ 6.4 6.0 6.5 7.0 7.3 4.4 6.8 5.2 7.1 6.2 5.7 4.8 8.5 5.3 6.4 6.5 6.6 6.0 5.1 6.5 5.1 5.9 4.4 5.0 5.0 3.5 6.5 5.1 5.9 5.11 8.0 6.3 4.4 5.8 5.0 6.0 5.5 5.2 4.7 5.3 4.5 8.5 5.1 8.8 5.6 7.2 na na na na na na 6.4 6.5 6.5 6.4 6.0 6.0 6.6 4.4 8.2 5.3 6.2 8.3 7.0 6.3 5.8 5.0 6.5 5.5 4.9 6.6 5.5 7.0 5.8 3.8 4.4 6.4 4.9 4.8 5.5 4.2 3.5 5.2 5.4 5.3 4.8 5A 5.7 5.8 s.s 6.4 4.6 5.3 5.6 6.0 3.11 5.4 6.1 5.1 4.4 5.1 4.3 3.4 201M 2085 2004 200S ne 40.0 ne so.o 45.1 46.9 69.0 29.0 46.4 37.4 na na 65.0 84.0 66.0 59.0 45.0 26.0 55.0 60.0 na 1111 na ·220 -187 ·203 -203 -178 -203 -202 -190 5.3 5.3 na 4.6 5.0 na 5.5 5.3 na -200 5.15 5.8 ·197 118 ne na na 5.2 na na 4.8 4.5 5.4 na na 44.0 na 58.1 63.9 ·211 30.0 25.0 ·200 45.0 315.0 -210 40.5 38.0 ·222 na -209 5.2 5.0 na na ·205 -190 -207 5.1 5.8 52 na na na na na na na na 40.0 na na 29.3 37.9 na na 118 na .43.5 30.0 42.0 45.0 23.0 5.8 4.8 6.7 6.4 7.0 5.0 8.3 7.4 5.5 8.1 ·226 ·208 -203 -211 ·201 ·206 ·218 -200 ·200 ·208 2004 2005 na na 5.3 5.5 5.5 na na 4.3 5.0 na na 4.8 5.8 85.0 ·211 -200 35.0 ·211 ·220 50.0 ·219 ·207 39.8 40.0 na ne na na 5.4 5.1 na na 5.5 na na 40.7 44.4 ,. na 33.4 ·207 -213 62.1 ·230 -214 na na 4.2 5.0 s.e 5.3 6.7 45.6 45.7 ·211 -204 5.2 5.o 5.8 4.8 7.3 4.4 0.7 5.5 5.2 4.3 5.7 5.6 8.5 3.4 1.2 .43.8 .43.4 -212 38.3 38.9 -212 68.0 85.0 -200 21.0 23.0 ·235 12.1 17.6 10 -209 -203 -t76 -242 13 5.2 5.0 5.8 4.0 0.5 5.2 5.8 3.6 0.6 5.4 8.0 3.5 1.0 8.3 4A 0.5 na 6.4 55.0 80.0 -203 -196 21.0 23.0 -210 -200 57.5 62.4 -235 -242 4.0 u na Actual - Conaensua ·-- 0 111 11 '114 EIHI J411'0$ eurlbor: 3·mltl,% Garman 10-yr GovtBond,% 2.1 End Oot'()S 2.6 2.2 4.8 4.1 na 6.2 na c:oncems over inflationary pressures. Data releases also pointed to slower economic activity over the third quarter, with September's Purchasing Managers' Index indicating a slowdown in industry. Retail sales feU in August which suggests that domestic demand Is not providing much impetus to growth, either. Consequently, our panel believes that rates will remain on hold over the next 30 days. Euro Zone Interest Rates Forecasts are provided by a total of more than 80 panef.. lists forGennany (pege9), France (page 11).1taly(page 15),theNetherlands(page20)andSpaln(pege22). This aUows the analysis of forecasts for different yields on individual country 10-year benchmark bonds. Forecasts for 3-month interest rates are aD for the EURJBOR rate. ,. na na 5.7 6,0 na currentstrengthlnoUprices(seepage27}hasruwakened 5.9 5.4 5.11 5.5 5.1 4.6 na . Interest Rates Unchanged as ECB Outlook Wavers The European Central Bank left interest rates unchanged on Oclober7,wlthECBpresldentJean.CiaudeTrlchetlndieatfng that the bank's GDP growth ouUook has moderated. This marts a change in tone compared with the ECB's earlier 81CP8C*tions with regards to the recovery. However, the na Likelihood of an ECB Interest Rate Change Our panel's estimated average probability ofa change in thelnterventionrat8 withln30daysfollowingthesurvey datewes: a:a:IWE s.o 0.7 Nane = 100 % EuroExchangeRatea Forecasts are provided by men than 1OOpanellislsandare shown on page 27. Euro Zone Economic Statistics The source of an HIS1Dr1Caf Data {facing page) Is Eurostat. with theaxceptionoflheCun'entAccountandlheMoneySupply,M3, whidlarefromthe EwopeanCanlraiBank. Thebaseye&Nand statistics methodologies used by Eurostat may differ from those used by lndMdual euro zone-member countries included in Consensus FonJcasts. Eurostat data is often drawn from the national statistiCal agencies wilhln the euro zone but is adjusted to achieve standard Gfassificatlons. Real Growth and Inflation Consumer and Industrial Confidence Dlffllsion lntlcM for,. a.o Ante 12 %balance of fUPOI\SeS Soutr:e: EutDpean Commllslon e.o t.O 4.0 2.0 0.0 +--+~tt<-"'!f+-"""""' ________. . ·2.0 -4.0 ...o .a.o ·10.0 3 •12.0 ·14.0 2 •lt.O •lt.O o~-r~~+-~~~~~~~~~~~~ _, ~~Wa5~~c~Me•w•woo~mm~~~w~~ - Real GOP(% dlg )'lOy) - Consumer Prices(% chg yoy) 0 Copyright Conseneu8 £Qonornk:8 Inc. 2004 .. . " -28.0 •32.0 Jan- J .. J - JIA- J ... JIA- Jlfto JIA- J - JIA- ~ ~ ~ ~ ~ ~ ~ " JIA- J ... J~Ao JU. ~ ~ ~ 18 Gro. -- Pttvate Damalc CclniUmpProduct EconcNnlc~ eaan lnlillllfCIIta Unit FOils link Rabobank~ Molgaa 8lanllr AINAIIIIO Deut8c:lle 8lnlc licanonl)<.com ~8tnlllllll Galdmln 8lchl lNG 1.4 2.0 1.4 1.9 ~&Co. Clllgraup HSBC eons-us..., 1Ait lllondl'aiiMft 3 MDnllltl AGO High Low Slantlanl DIMIIioa Ffllld ... 0.4 1.2 1.8 0.4 1.3 1.2 2.0 1.3 2.0 1.4 3.3 1.0 1.1 0..1 0.5 0.2 0.3 1.0 0.0 0.3 1.5 1.5 3.1 0.4 0.7 2.7 3.0 0.3 0.8 2.8 4.1 0.7 1.0 .1.3 1.4 0.2 0.4 ..Q.1 1.1 1.8 -o.8 1.9 2.1 0.4 1.7 1.2 1.2 1.0 1.G 1.9 1.8 2.0 1.5 3.3 1.6 2.0 1.6 2.0 2.0 1.4 1.1 Prtcel Hourly WageS CUrrent Acaaunt 2.1% 3montlt !uro turin (Eurobn) Rail(%) (-:,c- 2004 20115 20M 2001 20M 2011S 2004 20011 20042110& 20M 2005 0.2 0.0 1.4 1.3 1.3 1.3 1.3 1.2 1.2 M8llUflc. Consumer Produaltorl 2.5 2.8 1.8 2.2 0.5 3.2 2.2 1.9 1.8 1.8 2.0 2.4 3.0 4.1 1.8 1.4 0.5 1.4 1.6 1.0 1.0 2.5 0.5 2.5 1.0 3.4 0.3 0.7 1.2 JDCaplal tan GfOI$ 0.8 0.5 0.0 0.5 0.3 0.4 0.8 0.5 0.2 0.3 1.0 0.3 1.8 1.1 1.2 1.2 0.9 1.1 3.1 1.2 1.7 o.s 2.2 1.0 1.2 0.8 1.0 2.2 2.5 na na na 1.3 0.3 1.3 0.4 3.0 1.5 3.3 2.0 2.4 2.2 3.0 na 1.4 1.2 1.2 1.2 1.2 1.2 1.5 1.0 1.2 0.8 1.3 0.8 1.5 ,. 2.5 1.2 1.3 1.4 1.3 1.8 1.2 1.2 na 1.5 0.8 1.1 1.2 1.4 2.2 0.8 2.5 1.3 1.3 1.4 2.2 1.0 1.2 1.3 0.3 0.3 2.6 2.7 3.3 1.5 0.5 1.3 1.2 1.4 1.3 1.8 2.0 1.2 0.8 0.2 0.4 o.e 0.6 1.0 1.0 0.8 3.0 2.o 11 Year_Dulcll GcMBolld Yield(%) ::.=. IIIli Eftll .laii'GS aat'8S na na 118 na na 118 16.7 2.2 2.5 2.5 2.8 3.1 3.0 3.0 2.4 4.2 4.4 4.4 4.4 4.5 4.8 4.6 4.7 4.7 4.9 na 1.8 1.2 .... 1.2 14.6 0.8 na na na 15.9 1.5 1.5 13.5 1.7 0.8 15.5 2.1 3.5 13.8 1.8 1.7 16.0 118 na 1.7 1.5 1.8 .,. Rides on awwy Date Annuli Totld Averaee ~ CJiansl8 an Prmoue c.1emtar v... na na 17.9 15.5 17.5 14.8 16.5 na 2.3 2.2 na na na na 2.3 2.8. 4.4 4.9 na na na 118 na 1.4 1.1 16.3 17.9 1.0 1.8 13.0 ta.o na na 1.8 1.2 1.5 0.1 14.0 13.8 na na 18.5 14.8 2.1 2.1 2.1 2.1 4.6 4.5 4.7 4.7 4.5 1.8 1.4 14.9 15.8 1.6 1.4 15.1 1.6 1.5 14.5 2.1 3.5 16.5 1.0 0.8 13.0 0.3 0.8 1.3 2.2 2.8 2.8 2.1 1.8 4.4 4.3 4.5 4.3 4.2 2.2 2.8 4.4 4.7 2.5 2.1 0.2 3.1 1.8 0.4 4.5 4.2 0.1 4.9 4.5 0.1 2.4 18.5 15.7 17.9 13.0 1.7 ~fonlcllts CPB (Sap. 'M) ElurColwlialon (Apr. '1M) 1.0 IIF (Sap. 'tNt 1.1 OI!CD(IIIIy'M) + 1.6 1.8 o..9 2.1 1.3 1.2 17.4 20.7 0.0 2.8 Revised second quarter national accounts data reveal lhatprivateoonsumption roaeatasomewhatquickerpace this year than was previously thought: by 0.6% q-o-q In the find quarter and 0.1% during the April-June period, as opposed to 0.3% and 0.0%, respectively. + In an effort to boost the competitiveness oftheeconomy, thegcMirJlmenfS recently unveiled 2005 budget inducted plans to cut corporation tax. reduce Incentives for employees to retire early and freeze civil service wages. The planned measures led todemonstrationsagalnsttfle proposed cutbacks. Real Growth and Inflation 6 5 " Historical Data • " chtJn(le on pt8lllous yur 2000 2001 2002 2003 Groaa Domestic Product* Private Consumption* Groaa Fixed Investment* 3.5 3.5 1.4 4.4 Manutacturtng Production" Consuniet Prlcea* 2.4 Hourly Wages (manufacturtng)* 3 .6 Cummt Account. tranaactlona bula. Euro bn 7.8 3 mth Euro, % (end yrt · 1.4 0.8 1.4 0.2 1.3 -0.9 •0.9 ·0.7 ·3.6 -0.8 ·2.8 4.2 3.3 2.1 3.9 3.7 2.7 8.3 -3.1 11.2 13.0 4.8 3.3 2.9 2.1 5.0 5.1 4.2 4.3 10 Yr Dutch Govt Boftd Ylekl, "(end, Nominal GDP • Euro454.3bn (2003). Popn • 18.2rnn (mid-year, 2003). SIEURJ Exch. Rata • 1.131 (average, 2003). 4 Quarterty Conaensua Forecasts 3 2 1 0 Hlstalr:al Data and Fotscss111 {bold llaJlcs} From Survey of Sepliemblw 11, 2IIIU 20M 2005 %001 Q1 GI'0$8 Domeatlc Product -1 Q2 0.8 1.1 Q3 Q4 Q1 Q2 Q3 Q4 Q1 QZ ,.., 1.1 1.4 Z.() Z.(J z.1 z.z 2.1 ~ 86 20 1.2 1.5 1.1 1.4. 1.6 '·~~~..o 1.#1 1.1 0 Copyright Cansensua Economics Inc. 2004 •-.% an- PriY1Ibt Doma1ic ConsumpPradllct ticm lllanufac· Consumer turing Prtc:es Production Gron Fbald w..-& Salartes 21104 zoos ~Nonley 3.9 2.9 5.0 4.7 8.4 4.1 1.7 DnBNQR 3.7 2.8 4.9 4.0 4.1 Ffnlt Sacurtiel 3.7 3.3 4.3 3.5 8.6 ......... 3.5 2.7 4.1 3.5 3.5 3.1 4.0 2.7 Econoln1.com 3.4 3.l 5.0 3.3 3.8 3.0 1.6 Dllul8che Ellnlc 3.3 2.8 4.1 3.6 5.7 4.1 2.0 Dmtll8 . . . 3.2 2.9 4.7 3.9 4.2 3.7 na na 0.5 1.9 3.1 3.0 4.5 4.0 4.9 2.9 2.5 1.0 0.6 1.6 Mnidflelg 3.1 2.2 4.2 3.2 5.3 5.3 na I'll 0.4 2.4 3.5 NaiMISiiali Fin SIIIV AIM 3.1 3.0 5.2 4.7 Handelatlanllat ·Oslo 2.9 1.9 3.9 CONenlua(MaM) 3.4 2.8 1..-t MDIIDt'• Milln SMOI!thaii;Jo Hlgb Low Sllnllnf DIMatlon Ecollomlc Forvc:ut.ra HS8C ........... . . . . . 011 SUi'\ley Date Annual c:t11mge on PnMoua Calendar Year TG181 ~ 4.4% Current s mvnth Al:count lntiertlank 10YUT GeM Bond (Nkrbn) Rllll l") Y"lllkl (%) ZII04 2005 2004 2805 2004 2005 2004 2005 2004 2005 20042005 .::as~ !':.~ 249 253 2.2 2.5 118 na 2.0 3.0 4.5 5.0 2.3 4.0 5.0 5.8 na na 118 118 2.1 2.8 4.6 5.4 2.2 231 196 0.5 1.8 3.8 4.0 228 155 0.6 1.9 I'll ne na na 0.5 1.8 na na 215 234 0.6 1.9 3.8 4.0 236 231 na na na na 2.5 OA 2.1 2.8 4.7 5.5 2.0 0.4 3.9 na 118 0.5 7.9 1.3 3.6 5.7 5.3 6.2 6.5 na na ne na 1.1 1.8 2.0 3.8 4.1 3.7 4.4 4.8 210 3.7 4.0 235 232 2.0 2.8 4.7 5.4 3.7 4.3 286 274 2.0 2.8 4.5 5.2 3.8 238 268 2.2 3.0 4.5 5.0 2.7 4.5 5.1 3.8 208 5.2 3A 1.5 3.3 0.6 2.0 3.9 4.2 246 203 1.9 3.1 6.0 3.9 na 118 0.4 1.4 3.6 3.5 118 na 2.0 2.8 4.8 4.7 4.5 3.7 5.7 4.6 1.8 2.4 0.5 1.8 3.8 4.1· 235 224 2.1 2.9 4.6 5.2 3.2 2.8 4.6 3.7 5.0 3.8 1.7 2.5 0.5 1.8 3.8 4.0 229 229 3.2 2.8 4.9 3.7 3.2 3.0 2.0 2.4 0.5 1.9 3.8 4.1 218 3.9 3.3 5.2 4.7 8.8 7.9 2.5 3.6 0.6 2.4 4.1 4.8 268 274 2.3 4.0 5.0 5.8 2.9 1.9 3.9 2.7 3.8 2.9 1.3 1.0 0.4 1.1 3.5 3.5 210 155 1.9 2.5 4.5 4.7 0.3 0.4 0.5 0.6 1.5 1.5 0.4 0.9 0.1 0.3 0.2 0.4 18 35 0.1 0.4 0.2 0.3 Ellnlc of Nol'trlt' (Jul. 'CM) 3.5 3.0 5.3 4.0 0.5 1.8 3.8 4.5 OB:D(Miy '84) 3.7 3.1 1.7 2.7 217 ~Fcnr:alts 4.5 3.2 + Consumerprioesroseby0.6% m-o-m in September, with the y-o-y lnftation rate edging up to 1.1% from 1.0% in August. A sharp increase in clothes prices was largely behind the acceleration, which left the undertying infla. tlon rate (which excludes tax and energy price movements)at0.5% y.o-y, upfrom0.1% in August, but sliD well belowtheNoc'gesBank'smedium-tenntargetrat&of2%. + largely representing strong income growth from oH exports, thecuiT8T'talxx:luntrec:ordedasurplusofNkr22.8bn In July, taking the cumulative total so far this year to Nkr128.2, compared to Nkr1112bn this time last year. Historical Data 2000 2001 2002 2003 • " duJng& an previous )'HI' GDP (Mainland)" Private Coneumptlon" Gross Fixed lnveetmenr' 1.8 0.5 -0.6 ·1.1 3.6 ·3.5 ·0.9 3.7 ·3.7 3.0 1.3 2.5 2.4 3.8 2.4 1.1 -3.6 Manutacturtng Production• Consumer Prices• Wages & 8allriea par Full-Time Empl.- (Totat)" ·3.0 3.1 4.5 5.1 CUrrent Account, Nkr bn 3 mth Interbank Rata, %(endyr} 10 Yr Govt Bond Yield, % (endyr) 229 235 5.3 196 3.9 201 7.7 7.0 7.1 2.5 6.0 6.3 5.8 4.5 •4.2 Real Growth and Inflation .·.Consumer ... ••• Prices Quarterly Consensus Forecasts . Hlstotfcal Data and FDf8Catlls (bold ilalics) From SWVey of September 13, 21104 2004 2005 20011 Q1 QZ Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Groea DomttiiiC Product (mainland) 3.4 3.7 u z,g 2.1 z.r :u 2.4 z.3 u Coneumer 85 87 89 91 93 95 97 99 01 c Copyright Consensus Economics Inc. 2004 03 05 07 09 Prices ·1.4 0.9 1.2 U 1.1 1.1 1.7 U Z.O 2.1 ~Change~). 21 Avwap 'lit Change em PnMous Clllendlr YMI' Groea . ttausehold Domello ~ tloa Product l!wnomlc f'Oiec:Miln ,..... aro. ....., lndullrlll Conlumer Cast par Pnlduotlon Pltcea Hour Annllll Rates on Totll 2.1'l!t Curl'lnt 3monlh Accaunt (Ewolln) lin Rlllll{'l!t) 201M 2805 2804 200! 2004 2801 2004211011 201M 2005 2004 2005 2004 2005 liNG flrwlclllllallceta 2.9 2.9 2.8 3.0 2.8 2.6 2.7 2.9 M'l 2.7 3.1 2.7 2.7 ~MIIddd 2.7 2.8 FAZ IMtltlll 2.7 na lnlt Eiltud IGonomlr:os lnallluto deCnldloOIIdll 2.7 3.0 lnlt L R Klein (Gauls} 2.7 2.8 2.8 3.1 CEFIU!DE 2.6 2.8 FUNCAS 2.8 2.4 Goldman8lw.llls 2.6 2.8 Grupo 8lntsnder 2.8 2.7 LeCIIIat 2.5 2.4 Morpn 8lanlav 2.5 2.8 B8VA 2.5 2.0 ~ 2.5 2.9 FL.vm-earto.• &con lnlillllgeuceUnlt UBI ..... 3.3 3.0 3.3 3.3 3.2 3.0 3.1 3.2 3.2 2.9 3.0 2.8 2.8 3.1 na 3.2 3.3 3.3 3.2 3.2 3.2 3.2 3.2 3.0 3.2 3.3 3.2 3.4 3.4 2.8 2.7 2.7 2.9 2.1 2.8 3.2 3.3 3.2 3.6 3.8 4.0 3.7 3.8 3.4 3.3 3.0 3.8 2.8 4.0 3.0 3.7 . 2.7 4.1 3.0 4.0 2.8 3.7 2.2 3.3 3.0 2.3 3.3 na 3.3 3.8 4.5 2.8 3.7 4.1 2.8 3.8 4.7 2.8 4.2 4.5 2.2 3.2 3.6 2.8 3.3 3.8 3.7 2.1 3.5 3.0 L8lt llontll'a..,. 2.7 2.8 2.8 3.0 2.9 3.1 2.5 2.0 0.1 0.3 3.2 3.0 3.8 4.0 3.2 3.3 3.0 3.1 3.7 4.2 2.1 0.4 4.0 4.7 3.0 0.4 3.4 3.2 4.0 4.7 3MonlhaAgo High LIM ........,DMIIICIII O.t 3.4 2.1 0.3 3.0 3.3 3.2 2.9 3.3 3.6 na na na 2.1 2.1 4.4 na na na 118 2.1 2.1 2.2 2.2 2.7 3.1 2.9 3.3 4.4 4.2 4.8 4.5 4.6 4.4 8.2 -Z'/.2 lilt na 111 na na 2.2 4.3 4.3 4.5 4.8 4.3 4.5 4.4 4.7 4.0 4.7 4.2 4.'1 4.5 4.7 4.9 4.7 4.4 4.8 5.3 4.8 5.0 4.5 4.0 -22.5 -24.5 na na 2.6 3.1 3.0 na na -30.0 na na na 2.9 3.9 3.9 ·25.3 -25.2 2.7 fill ns na ns 3.8 a.s 4.2 3.9 3.7 4.0 4.3 4.0 4.2 4.0 4.0 3.9 -26.4 ·21.4 -26.1 -26.3 -23.5 ·29.8 -32.7 ·21.0 ·26.0 111 na na -38.0 na na 2.2 2.4 2.8 3.8 3.8 na na 3.8 3.9 ·19.8 -18.8 -22.8 -24.0 ·25.0 -28.9 2.2 2.1 2.3 2.5 3.0 2.7 3.2 2.7 2.7 3.0 3.4 3.0 3.0 1.8 2.5 4.0 3.9 3.8 4.9 5.1 3.0 2.8 4.0 3.9 ·211.4 -27.7 2.3 2.8 4.4 4.7 2.7 2.5 3.3 2.0 0.4 2.9 3.0 2.9 3.2 2.7 0.1 2.8 4.0 3.9 2.6 3.2 2.4 0.2 3.9 3.8 -24.8 -28.8 -23.5 -24.9 ·19.8 ·18.8 -32.7 -38.0 3.7 5.3 2.7 3.4 1.8 0.4 4.8 4.0 0.2 5.3 4.0 0.3 3.9 3.2 na 2.8 3.5 2.7 4.2 na na Ylelcr('l!t) [!:!EM 'OIOci'OS t:',.::OS 2.8 3.8 2.7 na 3.5 s.o 4.1 2.5 o:=ld 1.6 1.2 2.7 Ill 2.9 2.1 2.0 2.4 2.5 Conaatlui(Meln) 2.8 3.0 2.8 2.5 2.6 4.1'l!t 10Y_. 3.0 3.0 3.0 3.2 3.0 3.1 3.0 3.0 3.1 3.1 2.9 3.0 3.9 3.4 3.7 3.3 3.8 3.4 2.3 2.8 2.7 2.8 3.1 3.0 3.1 surwr Date 3.0 3.0 4.3 3.2 na 3.3 2.5 3.0 4.3 1.2 0.7 2.7 2.8 3.2 2.8 2.8 2.9 2.8 3.0 3.2 4.3 4.2 3.7 3.5 0.2 0.2 -28.7 -31.3 -24.2 ·34.7 -36.4 -21.G -28.5 2.2 2.3 2.4 2.3 2.3 2.3 2.4 2.1 0.1 5.2 Comparlaan~ EurCuiiUIIIIiilfoA (Apr, 'OCf 2.8 2.6 (Sap. 'OCf 2.9 OECD Cllllv'oet 3.3 2.9 3.3 3.3 5.0 + The government, as part of its 2005 budget. announced anlncreaselnfundlngforlow-costhousing. Theboomln the property market. as well as an associated period of stronggrowthlnconstruetion, have been Important drivers of GOP growth in recent years. However, some,lncludlng the Bank of Spain, have warned that the .pace of house price rises is becoming unsustainable. + Thecunentaccountdeficitwldenedlnthesecondquarter, read'ling £9.5bn compared to £6.3bn in the first. Robust import demand and a disappointing start to the tourist season are likely factors behind the shortfall. ..: ..... Consumer Plices '··· .... 4 Industrial Production* 3 mth Euro, % (end yr) 4.8 10 Yr Spanish Govt Bond Yield, -1.2 0.1 1.6 3.3 2.9 2.1 5.2 . 5.2 4.2 4.3 - - y COnsensuSFOI"8caati Historical OaiB and Fotecasts (bold ilallcs) F10111 Survey of ............. s.ptember 11, 2IJtU 3 2004 2 28CI5 2008 Q1 Q2 Q3 Q4 Q1 QZ Q3 Q4 Q1 Q2 1 0~~~~~~~~++~~~~~~~~ -1 -2 Groaa DurMdc Product 2.7 2.6 2.1 2.1 2.7 2..1 U Consumer 85 ff1 22 4.0 3.4 3.6 3.1 3.0 Consumer Prices* 4.3 Salary Cost per Hour' 2.4 3.8 4.1 Current Account, Euro bn ·21.0 -18.3 ·18.9 -20.8 Nominal GOP ·Euto744.8bn (2003). Popn -41.1mn (mid-year, 2003). $1Euro Exch. Rata ·1.131 (av., 2003). 9 1 6 5 2000 2001 2002 2003 4.4 2.5 2.2 2.8 2.9 4.1 2.8 HousehOld Consumption* 2.8 5.7 1.7 3.2 Groas Foutdlnveatment" 3.0 Gross Domeattc Product" %(endyr) Real Growth and Inflation "' 8 Hlatotic!d Data • " chtilrJgs on prevloua YfJIIf 89 91 113 95 97 99 01 03 05 07 09 PriCM 2.2 3.2 3..4 U U U U 3.4 2.1 2.1 2.7 2.5 Z.$ ...... "On-l'U/1. 0 Copyright Consensus Economlca Inc. 2004 -:::.· CoriiiUmer Houlty Gross HouNhold Gross Earnings Pl'lcft Domestic eoneump.. Fixed ~~~~·~& lion Product lrwestment facturtng Man .) EcciJiondc ForeculenJ lfDrgan 8blnllly . . . llatldetitl8rillen NatklnallnllllUI8 • HER ~&CM!alg 3.5 3.4 .... ...... !SBAB SEBinlr8n lNG Flml1dalllladlrlls ~MD!pt oe.m.. UBI BconlrltAIIIgalaUntt fcanwutSIMid 3.4 3.4 3.4 3.3 3.3 3.2 3.2 3.2 3.2 3.0 2.5 2.9 2.7 2.5 2.6 2A 2.0 2.8 3.0 2.0 2.8 3.1 2.5 3.4 3.2 2.2 2.6 2.1 3.1 3.0 2.3 2.8 3.4 3.0 2.6 2.9 3.2 3.0 3.2 3.3 3.0 2.9 2.4 2.5 2.4 2.3 2.6 2.5 2.5 2.6 2.6 2.3 2.8 2.4 2.3 3.2 3.7 2.8 3.6 4.0 3.6 2.0 3.5 3.0 2.3 3.0 2.5 2.9 3.2 4.0 4.9 8.7 6.3 5.0 5.6 6.1 4.9 7.5 5.3 3.0 6.0 5.0 5.0 5.2 4.5 na na 6.1 9.1 7.0 7.5 5.6 6.6 5.2 5.5 na na 4A 7.0 5.5 5.6 6.5 5.2 118 118 6.G 5.0 5.0 3.0 5.2 5.7 8.3 4.1 5.5 7.0 0.5 1.8 0.7 1.6 0.5 1.8 0.6 1.4 0.5 1.7 0.6 1.4 0.6 1.6 0.6 1.7 0.8 1.9 0.6 1.4 0.6 2.2 0.6 2.2 0.5 1.5 0.7 1.6 0.8 2.1 3 monlb Depollt na na na na 3.4 138 3.2 3.3 3.2 1.S 1"10 180 2.3 2.1 2.3 2.8 2.6 2.8 2.7 na na 2.9 3.0 3.5 3.3 3.0 3.7 4.6 4.6 4.8 4.8 4.8 4.8 na na 3.4 3.0 2.9 3.6 3.2 3.5 4.6 4.9 4.8 5.3 5.1 5.4 5.1 4.9 5.1 5.3 5.1 na na na na na 4.8 187 165 2.4 3.2 4.7 5.0 3.2 3.4 165 180 3.3 3.5 2.9 0.2 155 156 200 192 148 136 2.8 2.1 0.2 4.0 2.6 0.6 5.1 4.5 0.2 5.4 4.6 0.2 0.1 2.9 2.8 {Apr• ...., 2.3 2.8 3.0 2.5 iaF(Sip.'IM} OS:O(Miy '1M) 2.5 2.8 2.6 2.3 2.4 2.5 3.2 7.7 1.5 5.6 2.5 2.5 1.1 3.0 1.3 4.1 3.0 0.9 1.4 2.2 0.8 0.5 0.1 1.4 0.3 0.4 1.2 5.1 4.5 4.0 8.7 2.0 0.6 4.8 4.7 4.7 4.6 5.1 2.6 3.0 2A 2.3 4.7 2.1 2.8 2.5 3.4 2.0 0.5 1.7 1.8 na 3.2 3.6 3.6 3.3 4.0 3.4 3.5 na 2.5 2.5 2.6 0.6 172 na 2.4 2.4 2.5 2.5 2.4 2.6 2.8 na 2.9 2.7 3.4 2.5 0.3 0.7 166 152 155 155 161 180 180 188 153 200 192 2.3 na 3.3 2.9 3.7 3.0 0.2 5.0 6.8 na 169 160 165 na 166 na ILalt Mlllnlh's...., 5.3 174 170 na na 3.1 5.5 8.3 5.3 0.6 1.7 3.1 3.3 8.1 5.0 9.1 l::''IIS :;. .=.. ::. 3.0 3.2 3.3 3.2 2.7 5.6 Rate!") 168 2.5 ·s.o fOYear GIMBond YieiO(%) 176 2.9 DMdlon Curmd Mcount (Siwbn)' 8umly Data 4.3% na 3.4 ~ !8tlndlnl 2.1% na (Maal1) Is lllonltla Ago Total 2004 210S 2004 210! 2004 200.! 2104 2005 21042005 2004 2105 2004 2805 3.7 3.B 3.5 ........... ~ 011 Anmlll Average% Challge on~ C8lemlar Year· na 3.5 3.7 3.0 0.2 14 14 ~ Rllllllrlnk-.... Eii'CormiiiiJon 6.0 + The govemmenfs 2005 budget plan- which includes a series of tax cuts- was widely seen as stimulative and likely to support the cummt upswing over the coming year. However, some believe that it may also Increase Inflationary pressures, possibly leading to the Riksbank raising Interest rates sooner than might otherwise have been the case. + RetaH sales surged by 1.9% m-o-m In August, continuing the upward trend of recent months and lndioatlng that household consumption growth was fairly strong during the third quarter, after rising by0.5% q.o-q in the second.· Real Growth and Inflation .... Consumer f ': Prices .. . Groa• Domestic Historical Data 2001 2001 2002 2003 4.4 1.2 2.0. 1.7 0.4 1 .• 1.9 5.0 Houset!old Consumption• 5.6 -1.0 -3.0 ·2.0 ~s Fixed Investment* 2.1 Min. a Manufacturlno Prodn" 6.6 -0.5 0.3 1.0 1.9 2.4 2.2 Consumer Prices* Average Hourly Earnings 3.4 2.9 3.3 2.9 (Mining a Manufacturing)* 90.8 100 126 157 ~nt Account, Skr bn "~Oil ptWiout$,.. Producl" 3 mth o.,o.H Rata, % (endyr) 10 Yr Govt Bond Yield, % (endyr) 3.8 3.8 2.8 4.8 5.3 4.6 4.8 Nominal GDP ·Skr 2,438.9bn (2003). Population· 8.9mn (midear, 2003). Skrl$ Exchange Rate • 8.086 ( • 2003}. uarte nsua orecasts Histt1tfc8l Dam and Forecas111 {bold italics) From SliMy af Sepfamber 13.- 2004 2004 2005 21108 Q1 Q2 GrOI8 Domestic 85 ffT 4.1 93 95 fJ1 99 01 e Copyright ConteniUa Economics Inc. 2004 03 05 07 09 Procluot Conaumer Priees Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 2.6 3.3 1.1 3.2 3.1 1.1 . 3.11 1.0 3.0 0.1 u 0.4 23 Antlutl A.,.. 'Jio Cltlnglt on PNvfoua Cllan!lllrY... Groea Privatlf Dointstlc ConeumpPfacluat Groaa Industrial FIDd Produclon tfon ZGrcher Kantonlllbamk Goldman 8achs lNG Finan_, Markata 2.1 2.6 1.9 uas 1.9 1.8 2.0 2.3 2.1 1.5 2.0 1.7 1.8 1.6 2.1 1.9 1.7 1.8 1.7 1.6 1.7 1.6 1.6 2.0 2.4 1.8 1.9 2.0 1.8 1.8 1.4 2.1 3.6 3.6 4.5 1.7 2.5 2.5 4.6 3.9 3.0 2.7 4.5 3.2 2.6 3.6 3.9 2.7 3.2 2.6 5.2 3.9 u 3.8 2.0 2.1 2.1 3.3 3.3 5.5 JPMorg1111 Plctet&Cie Swlssl.h KOFIETH Institute,.. 1.8 1.8 1.8 1.8 1.8 1.7 1.8 1.5 1.8 0.8 1.5 2.0 2.0 1.4 1.5 1.7 1.5 1.4 1.9 2.0 1.8 1.4 1.9 Conansus(Maan) 1.8 1.9 1.7 1.7 3.5 LaatMonth'IMean 3MonthsAgo 1.7 1.8 2.1 1.5 0.1 1.9 1.7 1.6 2.1 0.8 0.3 1.7 1.8 2.1 1.4 0.3 2.7 2.3 5.2 2.0 1.6 1.8 Bank Julius • ..,. Econ Intelligence Unll BAKBasel Bank Vontobel 1.9 1.8 CftM!ItSuiMe High Low Standard Deviation Comparison FoNCDIS •F(Sep. 'M) OECD flllw '04l 1.9 2.5 1.5 0.3 3.0 0.1 1.3 140 155 0.8 1.5 na na 3.2 0.7 1.3 138 147 na na 0.8 1,0 138 146 3.5 4.7 2.3 5.1 u 140 148 na na 2.8 2.7 na na 5.1 2.8 1.9 4.5 na 2.8 3.0 na na 111 na 3.2 3.5 3.3 0.7 3A 1.0 2.8 3.1 5.5 1.7 0.9 3.1 5.1 1.8 1.1 3.1 2.7 5.1 2.2 1.1 1.8 2.3 3.4 3.7 the upswing.- + The SNB forecasts inflation to average 0. 7% and 1.0% In 2004 and 2005, respectively, at current interest rates. Only during the fourth quarter of 2006 does lt expect Inflation to rise above the bank's 2% upper limit. (Swfrbn} na na na na na na 62.3 60.6 na 0.1. 1.2 141 1-49 1.2 142 150 0.9 1.5 180 171 0.4 0.8 138 142 0.1 0.2 7 8 1.0 1.0 1.0 1.0 1.0 2.9 3.2 2.9 3.0 1.8 2.o 1.6 1.7 1.8 2.8 3.5 4.0 3.3 3.4 3.0 na na na na na 52.8 49.8 0.8 1.0 1.0 1.0 1.0 0.9 0.8 2.9 2.7 2.7 3.0 3.0 2.8 3.2 2.8 3.2 2.8 .2.8 3.4 4.0 2.5 1,0 1.4 1.2 1.5 1.7 2.0 1.3 1.2 1.3 53.8 51.8 1.0 1.8 ~.9 3.2 60.1 49.0 58.0 47.1 4.3 1.0 0.8 0.1 2.0 1.2 0.3 3.2 2.6 0.2 4.0 2.5 0.8 na na 1.2 142 150 0.7 =-=- 1:0.::0. 47.1 47.0 49.0 48.0 57.0 57.0 56.0 50.0 na na 57.8 57.9 59.0 54.0 49.4 -47.8 57.9 47.0 4.1 3.3 3.0 · Real Growth and Inflation ••• Consumer cForecast> Historical Data 2000 2001 2002 2003 • " cllanQe on pl'liVIous year Gross Domestic Product" Private CoMumption* Gross Fixed lnvettment"' tndustn.l ProduGtlon* Consumer Prices* llerch Expor18, SwFrbn Cunent Account, Swfr bn 3 mth e..o-Franc Rate, %(end"' 10 Yr GoYt Bond Yield, · %(end"' 1.0 3.8 2.3 2.0 -4.3 -2.9 8.4 -0.7 1.0 1.6 127 132 51.7 33.8 0.3 -0.3 0.3 . 0.5 0.1 -0.3 0.0 -5.1 0.7 0.8 130 131 36.2 57.0 3.3 1.8 0.8 0.2 3.5 3.5 2.2 2.8 Nominal GOP· SWFr433.3bn (2003). Populatlon • 7.2mn (mlI)Oollft.02.111>01 t htslotltlll/,..uplll.lanUIIfY~. 1-.-~ tAD 1.15 ,............,_,.....J..... Jon4Jit>olllJ...... ·~-~IIIIINbeHdon•~ . . .of. . . , . , Glfi/MI_,_.,GIIIl1tiiCIIa West Texas Intermediate, US$ per barrel Ranu- 1985-2004 Spot Rate (Oct.11) October Survey 53.7 -10.4 53.5 Forecutfor End Jan. End Oct. 2005 2085 Mean Forecast 43.0 38.5 High 60.0 33.9 4.6 64 62.0 28.0 5.8 64 Low Standard Deviation No. of Fonteaat8 0 Copyright Consen8Us Economiea Inc. 2004 Oil Prices Reach New Highs and Thraaten Global ActiYit)' West Texas crude prices hit a new high of US$53.67 following a Russian court upholding a US$1.4bn back tax demand on Yukos (Russla'slargestoDcompany),raisingooncemsofoutputdisruptlon. Elsewhere, supply restrictions continue to have an upward eff&cton prices. Nigerian oB workers began a 4-day strike, whUe a series of devastatingstormsintheGulfofMexioooverthepastmonthslowed production there. The Venezuelan government's plans to raise exploration feesforforeignoilcompanieshavehithopesoflnc:reased oil capacity. With demand for oil as strong as ever, importing nations will need to adapt to a higher level of energy costs over the longerterm. Indeed, G-7 panellists' ol price forecasts over the next 10 years (which will be published In our forthcoming Global Outlook survey of long-term forecastS) confirm this view. 27 France • ~ dlllnge OWif ptelllous year Gross Damaalic Praduct" Houaahald Consumption* Business lrMstl11861"' lndualrtal Produc:lian" eon.unar Prices* Current Ac:counlBIIance (Eurobn) 10 y_.. y,_., Bond Yield, V.2 ConsensusForecatts Hisloltcal 2008 21101 21102 2G03 201M 21105 211108 2DIJ7 21108 210118 211Jt0.2014' 4.2 2.1 1.1 0.5 2.5 2.2 2.3 2.3 2.2 2.2 2.2 2.3 2.4 2.3 2.1 2.1 3.0 2.7 1.8 1.7 2.4 2.2 9.1 3.5 -3.8 ·1.8 4.3 5.1 3.7 3.4 3.4 3.2 3.2 2.9 2.8 3.1 5.1 2.7 2.8 2.6 0.8 -1.9 .0.9 2.4 1.7 1.9 1.9 1.7 1.7 1.6 2.0 2.1 2.2 1.8 1.8 7.9 13.4 14.5 17.5 19.5 24.0 15.4 4.8 3.4 4.7 15.3 5.0 5.1 4.2 4.4 4.3 s 4.7 4 4.9 5.0 5.2 5.3 5.0 United Kingdom • " c/IMI(/e OWif plelllous yew Gross Domestic Pracktcf' HOUNtlold Consumption"' GroeeFixed~ Nanufaalurtng Production* Retail Priola (un~ Conaumer ~· Cu'*lt Account Balanu (t bn) 10 y..,. TnJIUIU'J Bond Yield, %a rater ConeenausFonlcaats Hltstoricll 2GOO 2001 2002 2003 2004 2005 2001 2007 2001 . . 2010-2014' 3.9 2.3 1.8 2.2 3.3 2.8 2.0 2.0 2.1 2.3 2.2 4A 3.1 3.2 2.3 3.1 2.3 1.8 1.8 2.0 1.9 2.2 2.6 2.7 2.2 8.2 1.5 1.2 1.2 1.8 2.1 3.6 4.3 1.1 1.4 2.4 ·1.3 -3.1 0.4 1.4 2.0 1.5 0.9 1.2 2.1 2.1 2.4 2.4 2.5 2.5 2.6 2.7 2.2 2.8 2.3 1.8 2.0 2.0 1.9 2.0 0.8 1.2 1.3 1.3 1.4 2.1 ·111.1 -22.4 -18.2 -20.4 -25.8 -27.4 -31.8 -30.8 ·22.8 ·21.3 -20.3 5.1 • 5.0 5.0 4.9 5.0 4.9 5.0 4.4 4.8 5.0 a 5.1 Italy Historical "~o-~year .2000 .. 2011 2002 2003 2004 Groa Donlllllic Prclduct" 3.2 1.7 0.4 0.4 1.2 2.8 0.8 0.4 1.2 1.4 Houaehokl~ Groea Fbald tnwstnaent* 7.3 1.6 1.3 ·2.1 2.9 lftduatrlal Production* 4.1 -1.2 -1.3 .0.4· 0.5 Consumer Price~~* 2.5 2.7 2.5 2.7 2.3 CUrrent Account Balance (Euro bn) -8.3 .0.7 M10,0 -18.4 -17.3 10 Y..-T......, 8oftd Vleld. 'II 5.2 5.2 4.3 4.5 4.4 ConaensusForecats • 2005 1.8 1.8 3.0 2.1 2.1 -17.0 4.8 J 4 2001 . , 2DG8 21109 2110-20141 2.0 1.8 1.8 1.8 1.9 2.0 1.9 1.9 2.1 1.9 2.8 2.5 2.2 2.4 2.2 2.0 1.8 1.8 1.7 1.6 1.9 2.0 1.9 2.0 2.0 -14.5 -12.5 ·12.8 -13.5 -11.8 5.1 5.0 5.1 5.1 5.0 . Canada • " ohllnge OWif ptWicJut ,_. Grou Dotltesk Product" Personal EJcpencllture* llachJnery & l!qpt lmNI8tment" lndustrilll PI'Dductlolf' Consumer Prices* Cumant Account Balance (C$ bn) 10 Yew TI'IIIISUfY Bond Yfald. %1 Hl8torlcal ' 201111 2001 21102 2003 5.2 1.8 3.4 2.0 4.0 2.7 3.4 3.1 8.3 -2.2 -1.2 4.5 7.2 -2.3 2.4 0.3 2.7 2.5 2.3 2.8 29.3 25.0 22.7 23.8 5.4 SA 4.7 4.8 ConsensusForecaata :2004 2005 3.0 3.4 3.3 7.9 3.4 1.9 37.5 5.0 3 21101 2G0'7 21101 20111 20114114' 2.8 2.7 3.0 2.8 2.9 3.0 3.1 2.8 2.7 2.8 2.8 7.0 5.2 4.0 4.3 9.0 3.5 3.4 2.5. 1.8 3.3 3.7 2.4 2.1 1.5 2.0 2.0 2.0 2.0 35.1 . 37.0 35.4 34.4 36.9 40.2 5.4 • 6.1 5.9 5.9 5.9 8.1 Euro zone • " ~- pnw#Du$ )'I!J8r Historical 3100 2001 JG02 2003 2004 Gross oan..tic Procluc:r 3.5 1.6 0.8 0.5 1.9 1.9 0.6 Ptlval8 Consumpllon"' 2.7 1.0 1.3 Gross Fixed capital Formation'" 4.9 .0.3 -2.7 .0.8 1.3 tnduslrtal Production· 5.3 0.4 -o.s 0.3 22 Consumer Prices* 2.1 2.4 2.3 2.1 2.1 Account Balance {Euro bn) ·79.1 -17.2 53.4 24.2 45.6 Current 1 End pfJrlod 28 'Sign/fiBs ll'lf1f8(/e b' pedod ConaansusForecast8 2006 . . , 2008 2008 201N0141 2.0 2.1 2.1 2.1 2.1 2.0 1.7 2.0 2.0 2.0 2.0 2.0 2.9 2.6 2.2 2.5 2.5 2.5 2.1 2.1 2.5 1.8 2.1 2.0 1.5 1.9 1.9 1.9 2.0 1.9 45.7 49.2 49.6 52.0 56.3 59.0 1End fJfJ1/od "End .kmuaty, 2tJ05 •End Ol:totler. 2005 2005 0 Copyright Consensus Ecanomk:s Inc. 2004 The Netherlands • " chenge over pteVItJu$ yrNif ComtensusForacasts Historical 2GIIO 21101 2802 mol 21104 Gross ~Product" 3.5 3.5 Prlvalle Conlumptian* Gross Fixed lrMilniiif1l'" 1.4 ~In& Pnlcluc:tlon- 4.4 2.4 7.8 5.0 Consumer Pl'ic:IW Current Account Balance (Euro bn) 10 YearTIMIIUJY Bond Yield, "4z 1A 1.4 0.2 ..().7 4.2 8.3 6.1 ..().9 0.6 1.3 -3.6 ..().8 ..0.9 -3.1 -2.8 2.1 13.0 4.3 3.3 11.2 4.2 1.2 0.4 2.1 1.8 2.7 2.4 1.4 16.2 4.9 1.3 1.4 2.2 2.5 0.8 1.3 15.8 4.7 1.3 14.9 4.4 a. 2005 1.8 3 4 211117 20118 2DDt 2010-2014' 2.4 2.4 2.3 2.3 2.1 2.1 2.1 2.1 2.5 2.8 2.7 2.4 2.5 2.4 2.3 2.3 1.7 1.7 1.7 1.6 16.3 17.2 17.5 18.3 5.1 5.0 5.0 5.0 Norway *" Consensus Forecasts to.torical ilhBnge over ptrNiws year 2000 2001 2002 2003 2804 2.4 2.4 1.6 0.5 3.4 3.7 4.5 3.8 1.7 3.6 -3.6 ..0.6 -3.5 -3.7 5.7 -3.0 -1.1 ..().9 -4.2 1.8 3.1 3.0 . 1.3 2.5 0.5 229 235 198 201 235 6.0 6.3 5.8 4.5 4.6 Groa Oom Prod (Miinlllnd)• ...... Consurnpllon'* Groa Faced Investment* Manufacturing Pfuduction* Conaumar Prlcas" Currant Account Balance (Nkr bn) 2 10 Y • TtMSU~y Bond Yllkt, % 2001 2007 2008 200t 20't04014' 2.3 2.4 2.2 2.2 2.4 2GCI5 2.8 3.7 4.8 2.4 1.8 3 224 5.2. 3.1 3.0 2.1 2.0 181 2.7 2.7 2.6 2.2 138 5.2 2.6 3.1 2.4 2.2 119 52 28118 2007 2IJG8 2CI09 2.8 3.0 3.0 3.0 3.0 3.0 3.1 3.0 4.1 4.2 4.5 4.6 3.3 3.4 3.2 3.0 2.5 2.8 2.8 2.6 -25.9 -28.2 -32.2 -34.2 5.1 5.2 5.3 5.3 2.8 2.8 4.2 2.9 2.5 -39.0 5.1 5.7 2.7 2.5 2.9 2.3 146 5.3 2.2 3.0 1.8 2.3 139 5.2 Spain ConsensuaForecaata Historical • " ciJange over prevfoul yeiiT 21100 2001 mll2 2103 2fi04 4.4 2.8 2.2 2.5 2.7 4.1 2.8 2.8 2.9 3.2 5.7 3.0 1.7 3.2 3.5 Groa Domeltlc Producr' Household ConaurnpUan* Groa Fbred lnvestmerC" Jndualrlal Procluctlon" 4.0 -1.2 0.1 1.6 2.6 3.4 3.8 3.1 3.0 3.0 -21.0 ·18.3 -18.9 -20.8 -25.4 5.2 5.2 4.2 4.3 4.4 Consumer Prices" Cun.nt Account Balllnce (Euro bn) 18 YW Trual.wy Bond Yield, "41 ll 20115 2.7 3.0 3.9 2.8 2.8 ·1:1.7 4.7 4 1 Sweden • " chan{1ll over prevfoul ynr Groa Donl8lfJc Producl" Household eor.untption* Grves Flxeclllheetnlel.r Mining & llanufac:tla1ng Prodft" Consumer Prfca" C111'1'811t Account, Skr billion 10 Y. .T,...ury Bond Yield, "42 2080 4.4 5.0 5.6 6.6 1.0 90.8 4.8 Hl8torical 2001 21182 2003 12804 1.2 2,0 1.7 3.4 0.4 1.9 2.5 1.4 ·1.0 ·3.0 -2,0 3.1 -o.s 0.3 2.1 6.3 1.9 0.6 2.4 2.2 100 126 157 167 5.3 4.8 4.8 4.7 Consensus Forecasts 20115 2.9 2.7 5.5 5.3 1.7 1 165 5.0 4 2GOI 2087 2001 2001 2018-20'141 2.8 2.4 2.3 2.3' 2.4 1.9 1.8 1.9 2.5 2.1 5.0 3.8 3.3 2.8 3.2 4.5 3.9 3.4 3.5 3.8 2.2 2.1 2.0 2.0 2.0 166 158 155 150 150 5.1 6.1 5.1 5.0 5.1 Switzerland • " clla1lp over previous yesr GI1I8S Dom8stJc Product" Pr~vaCe consumption• Grou flliiJd lnoeatnlllnl" lndustrtal Prclduol1on. Consumer Prlcls" CumntAc:count Balance (SWfr bn) 10 v.. TreaautY Bond YleJcf. %1 0 Copyright Consensus Economics Inc. 2004 Consensus Forecasts Historical 2008 .2001 2802 2103 21104 3.6 1.0 D.3 -0.3 1.8 2.0 0.3 0.5 1.7 -2.9 0.1 .().3 3.5 ..0.7 ·5.1 0.0 3.5 1.0 0.7 1.6 0.6 0.7 51.7 33.8 36.2 57.0 53.9 3.5 3.5 22 2.6 2.9 . 2DG8 2007 2088 2009 2018w20141 1.8 1.7 1.7 1.9 1.7 2005 1.9 1.7 3.2 3.3 1.2 51.8 2.3 4.3 8.4 I 3.2 4 1.8 1.7 1.6 1.5 3.0 2.8 2.7 2.6 3.7 2.4 22 2.4 1.4 1.5 1.4 1.5 49.8 49.1 50.0 50.9 3.5 3.7 3.7 3.6 1.5 2.7 2.3 1.3 51.8 3.6 29 This page has wen Ia?? intentionally blank QWWMIM.M . This page has been let? intentionaIly ank 9 Copyright Consensus Emma; Inc. 2004 31 October Survey Belglwn Real GOP 'Yo Increase 2003 2004 2005 1.6 2.8 2.1 1.1 2.7 -0.3 2.1 2.5 3.0 1.9 4.4 2.5 3.4 2.2 1.6 1.8 1.6 1.8 2.8 2.7 2.9 1.9 2.6 3.5 2.8 2.3 1.8 1.9 2.2 1.7 2.3 -0.1 1.3 0.5 3.0 0.6 0.7 2.3 2.6 2.9 0.8 1.0 0.5 4.3 2.3 2.4 1.9 3.5 2.2 2.3 2.0 2.3 2.1 2.1 2.1 5.2 6.8 5.2 3.8 3.3 5.5 3.7 3.2 0.5 11.1 7.6 8.3 OtherCountrtW 3.7 5.6 1.7 4.5 3.6 7.4 3.4 Total 2.6 4.1 3.1 2.4 2.5 Canada Fr.ance Germany Italy Japan Netheltande ~ Spain Sweden Swltzeltand United Kingdom UnltedStatea N~Arnertcat Western Europe1 European UnJon2 Eurozonel Asia Pacific~ Eastern Europe' Latin America' 1.1 2.0 0.5 -0.1 0.4 2.5 -0.9 0.5 2.5 1.7 -0.3 2.2 3.0 2.4 3.0 2.5 1.9 1.2 Consumer Prices %increase 2003 2004 2005 4.3 1.2 3.4 2.7 3.4 1.8 3.3 0.6 1.8 2.1 1.8 1.4 2.1 Current Account Balance, US$bn 2003 20M 2005 9.4 17.0 5.4 54.4 -20.8 11.6 28.5 4.2 91.3 -21.2 0.0 136 169 1.3 1.8 2.8 1.7 1.2 2.4 2.3 14.7 28.4 -23.5 19.6 42.4 -33.3 -531 18.3 34.4 -31.1 22.4 42.8 -46.7 -640 2.6 1.9 2.1 2.1 2.3 1.9 . 2.0 1.8 -614 88.7 -3.3 27.4 -612 120.3 1.2 1.2 7.3 6.6 262 3.8 1.4 10.8 32.9 11.0 27.3 5.8 ·ss.a -21.0 172 19.5 33.7 -34.2 '22.6 42.1 -48..7 -671 20.3 -644 110.8 11.3 56.0 56.4 266 3.5 14.3 50.0 259 -7.9 -1.5 33.2 2.4 Regional totals, as well as the gt&nd total for GOP growth fl/ld inllstlon, &Ttl weighted 11V8189eB calcultrtsd using 2llflf GDP .,.lghts, Ct1IMIIf8d at 11Vfn!P12000 ~- CUrrent acoount fot8casts given In nstkJtlal t:Un'8lldes on ,.,.. 7· 24 have bean CtJIIVelted using t.DISen8tiS , . , forecasts for the piJt'pO$G ofcompalfson. 1USA and canact.. J The E1110 zone aggregat. is fBken from our panel's fOrecasts {pllgu 1tJ..19). The EutO zone current acoount dllm and ~ baBfltl 011 atnHum ZQill dltl. I.e., they,. compiled from an aggregaftl of the E1.110 zone msmber states' transactlori1J only with nomesldents of the Euro zone. The European Union dallllncludes the E1.110 zone cocm111e8/isled 011 pii{Jtl18 plus 01tnma11c. Swaden andthe United~ as welt as May 2004 entrants the Czech Republic. &toM~, Hungary, LaMa, LitfluBnla, Poland, Slovaldll and SlowmiB (data tlllcen from East8m Europe Consensus FOI8CBSIS). Westctm Europe compristJs the E1.110 zone plus CJenmBrlc, SWeden and the IJniltJd Klngdom, along with NoiMy and Switzerland. 3 SUrvey 1'tiSUIIs for .1spiJII1 plus eleVen other countries taken from Mia Padtfc ContNnsus Fom:u,.. 4 Nlntlteen oountltes,lnt:lllding eJghl. E1J1C1111Mn Union OOIIIIIrfea taken ftom the latast issue of~ Europe ~ •FOUtteen counlries ts1cen ftom the 1stest issue ofLatin Anledc8n F~ {lnllatiOII figure$,. one Decsmber/Deoemberbasls). n eon.en.u. conaen.,. -~~~~.~~~~~~~---------------------SUBSCRIPnON FORM Please enter my subsCription to Consensus Forecasts. My cheque for payment (US$595 or £370 or t540 for twelve monthly issues, payable to Consensu8 Eeonomlcs Inc.) is attached. My addresS Is as ehown below: NAME COMPANY ADDRESS COUNTRY --------------------TELEPHONE POST/ZIP CODE FAX -------------------------SIGNATURE----------------------- Re1um this form to: Consensus Economlc:s Inc. 53 Upper Brook Street London W1K 2LT Unitacl KJrpn Tel:{4420)74913211 ------------------'Sdescrlpllon ee ~.a:IIIS8IIIIISIICOIIOII'Ik:s.comfor a of our other produciS and seMc:es. Fax:(4420)74092331 1004 CF Appendix 0 Cash Flow Timing Estimate TableC Amazon Quarterly Revenues 2002·2005 Figures in $ millions ~ L.i.!lft Revenue 101 01 102 Q2 Q3 103 104 04 105 Total 106 107 108 109 Period Q1 Q2 Q3 Q4 110 Revenue Discounted to Beginning of Year 111 Midpoint 847.4 805.6 851.3 1,428.6 3,932.9 0.125 0.375 0.625 0.875 2QQ.a 1,083.6 1,099.9 1,134.5 1,945.8 5,263.7 0.125 0.375 0.625 0.875 ~ 1,530.3 1,387.3 1,462.5 2,541.0 6,921.1 0.125 0.375 0.625 0.875 2,190.1 2,959.5 3,848.9 0.557 0.562 0.556 .2QQ§ 1,902.0 1,753.0 1,858.0 2,977.0 8,490.0 0.125 0.375 0.625 0.875 4,661.3 0.5491 ~ 2002-200~ Compustat Compustat Compustat Compustat Sum Lns 101 to 104 5,363.3 5,045.9 5,306.2 8,892.3 24,607.8 Quarter Midpoint Quarter Midpoint Quarter Midpoint Quarter Midpoint 0.125 0.375 0.625 0.875 Sumproduct (Lns101-104,106-109) 13,659.8 0.555 I Ln 110 I Ln 105 Appendix Summary of Merchants@ Program Appendix D Merchants @ Program Summary Through its Merchants@ program, third parties sell their products on Amazon's websites, either in Amazon's online retail stores or in a co-branded store on Amazon's websites, or both. This program is available to merchants who wished to sell products through Amazon's .uk, .de and .fr websites. Typical participants in the Merchants@ program are larger, branded businesses that are primarily focused on expanding the selection of new products available on Amazon's websites. We reviewed current versions of the agreements between Amazon and participants in the Merchants@ program in the UK, Germany, and France as provided to us in response to lOR 67. A third-party merchant enters into Business Solutions Agreement with Amazon Services Europe SARL. 3 Under a Business Solutions Agreement, Amazon agrees to provide selling services ,to individuals and commercial businesses who wish to list their products for sale on the Amazon website. In exchange for the services provided by Amazon, thirdparty merchants pay Amazon a fixed monthly subscription fee as well as a referral fee and a closing fee; the latter two fees vary by product category and by country. 4 3 There are different agreements for merchants who wish to sell through Amazon's .uk, .de, and .fr websites. There are only small variations between the three agreements; this summary refers . to the agreement from the UK. 4 For instance, for Amazon's .uk website, the current referral fees vary from 7.0% to 25.0% depending on product category. The variable closing fee ranges from £0.14 per unit to £1.15 per unit. UK Business Solutions Agreement, page 14. D-1 A third-party merchant may enter into a Business Solutions Agreement as long as it is of legal-standing under applicable law and it is willing to provide a legal name, address, phone-number and valid credit card to Amazon. The thirdparty must also consent not to offer the product at a lower price through any other sales venues. Amazon then agrees to list the third-parties products for sale in the applicable product category and conduct merchandising and promoting services as determined appropriate by Amazon. In addition to these responsibilities, the third-party must grant Amazon a "royalty-free, non-exclusive, worldwide, irrevocable right and license ... to use, reproduce, perform, display, distribute, adapt, modify, re-format, create derivative works of, and otherwise commercially or non-commercially exploit in any manner ... " all products listed by the third-party on the Amazon website. 5 The third party is responsible for all risks associated with the sale of the product with the exception of risk of credit card fraud, for which Amazon bears the risk. 6 If it chooses (and for an additional fee), a third-party merchant may list its products as "Amazon Fulfilled Products", in which case Amazon acts as a clearinghouse and provides shipping and handling services. For Amazon Fulfilled Products, a merchant ships products, at its own cost, to the UK fulfillment center with proper packaging including complying with Amazon's labeling and other requirements? Amazon charges fees for Amazon Fulfilled Products which are in addition to those discussed above. These fees including 5 UK Business Solutions Agreement. General Term #4, "License". UK Business Solutions Agreement, Selling on Amazon Services Term #S-5, "Compensation". 7 UK Business Solutions Agreement, Fulfillment by Amazon Service Term #F-3, "Shipping to Amazon". 6 D-2 storage, fulfillment, removal and disposal fees and are set forth in a "Fulfillment by Amazon Fee Schedule" that may be updated from time to time.8 Otherwise, the third-party merchant products are termed "Seller Fulfilled Products" and the third-party is responsible for complying with all sourcing, packaging, shipping, delivery and refunding policies as instructed by Amazon. 9 These policies include delivering products in a timely manner, responding promptly to customer requests and refraining from sending superfluous emails to customers. 8 9 UK Business Solutions Agreement, Fulfillment by Amazon Setvice Term #F-9.1, "Fees". UK Business Solutions Agreement, pages 9-10. D-3 Appendix Merchants@ Anatysis TableE Merchants @Analysis Commission Rates 2005-2007 .2Q:Q§ .l.irul WI 200§ Total 20Q5.2QQZ ~ Too Three Mercbants Sales through Amazon 101 Merchants@ in UK Market 102 Merchants @ in DE Market 103 Merchants @ in FR Market Total 104 Commissions/fees paid to Amazon 105 Merchants@ in UK Market 106 Merchants @ in DE Market 107 Merchants @ In FR Market Total 108 $93,435,199 $29,658,519 $15,949,755 $139,043,473 $192,153,107 $75,996,907 $36,796,704 $304,946,717 Table E-1, Ln 107 Table E-2, Ln 208 Table E-3, Ln 307 Sum Lns 101 to 103 $5,414,551 $3,239,515 $1,119,263 $9,773,330 $7,824,595 $3,372,191 $1,468,452 $12,665,238 $11 ,483,926 $3,726,062 $1,932,120 $17,142,108 $24,723,072 $10,337,766 $4,519,836 $39,580,676 Table E-1, Ln 114 Table E-2, Ln 216 Table E-3, Ln 314 Sum Lns 105to 107 12.3% 12.9% 13.0% Ln108/Ln104 EllllmiltU Estimated sales through Amazon 110 Merchants @ in UK Market 111 Merchants @ in DE Market 112 Merchants @ in FR Market 113 Total 114 115 116 117 118 $62,658,844 $23,901,026 $11,805,466 $98,365,336 14.5% 109 Weighted avg commissions/fees % ~iQlldillid ~IHH!l! $36,059,064 $22,437,362 $9,041,482 $67,537,909 Pre-tax income less services marlfup Merchants@ in UK Market Merchants @ in DE Market Merchants @ in FR Market Merchants@ Luxembourg Functions Total 119 Implied commission rate before IDCs adjustment 120 Cost share payment% (IOCs) Implied net commission rate 121 I $240,144,661 $151,884,766 $24,026,647 $416,056,074 $452,881,054. $228,325,776 $36,777,164 $717,983,993 $758,561,327 $509,486,834 $59,862,484 $1,327,910,645 $33,536,234 $21 '148,724 $1,911,262 $112,892 $58,709,112 $62,300,688 $46,127,869 $4,112,027 ($2,089,958) $110,450,626 $101,514,207 $89,781,184 $8,185,473 ($868,916) $198,611,948 13.6% 2.9% 10.7% 15.4% 2.3% 13.0% -~-- 15.0%1 1.9% 13.0% $1,451,587,042 $889,697,376 $120,666,295 $2,481,950,713 $197,351,130 $157,057,777 $14,208,761 ($2,845,982) $365,771,685 Table E-1, Ln 123 Table E-2, Ln 226 Table E-3, Ln 323 Sumlns110to112 Table E-1, Ln 131 Table E-2. Ln 234 Table E-3, ln 331 Table E-4, Ln 407 Sum Lns 114 to 117 14.9%1 Ln 118/Ln 113 2.3% Table 1, In 114 12.5%1 ln 119- Ln 120 TableE·1 Men:llants @ In UK Market Commission Rides 2005-2807 .bi!l! Total ~ 2006 ~ £10,203.242 £5,696,964 £3,939,491 NA £19,839,897 £11,547,263 £12,138,467 NA £10,350,554 £34,038,284 £10.586,333 £20,987,483 NA £15,115,n3 £46,689,569 £3,939,491 £25,466,327 £100.565,550 0.5502 $36,059,084 0.5432 $62,858,844 0.4997 $93,435,199 $192,153,107 Total~-£ £1,541,137 £858,143 £581.806 NA £2,979,086 £1,760,856 £1,843,450 NA £646,014 £4,250,320 £1,575,419 £3,154,264 NA £1.008,835 £5,738,518 £4,8n,412 £5,853,857 £581,806 £1,654,849 £12,967,924 113 Exdlange rate (£1$) 114 Total camrnissiona/fea • S 0.5502 $5,414,551 0.5432 $7,824,595 0.4997 $11,463,926 15.1% 15.0% 14.8% 15.2% 15.2% NA 6.2% 12.5% 14.9% 15.0% NA 6.7% 12.3% ~ Top Il)!ee Merchants Sales through Amazon 101 102 103 104 105 Tower USA The Book Oeposi1ory Flndprk:e Plxmanill Total sales·£ 105 Exdlange rate (£1$) 107 TOlaf !lilies • S £32,336,838 £38,822,894 IOR-66 IDR-66 IDR-66 IOR-66 Sum lna 101 1D 104 Bloornberv Ln105/Ln106 ~paid to Amazon 108 109 110 111 112 Tower USA The Book Oepository Findpric:e Pixmania $24,723,072 IOR-66 IOR-66 IOR-66 IOR-66 Sumlna 1081o 111 ln108 Ln 112/ Ln 113 ~18tes 115 116 117 118 119 TowarUSA The Book Depository Findpric:e Pixmania NA Weigllted -.got 15.0% 15.1% 15.1% 14.8% 6.5% 12.9% Ln 108/ Ln 101 Ln109/ln102 Ln 110/ Ln 103 Ln 111/ Ln 104 Ln 112/Ln 105 !02f!solda18d Comoanlt: Estimallls 120 42573 Merohanl Commission Rewnue 121 82412 ~Comrrisaion ~ 122 Total~ Revenue 123 Esllmated sales through Amazon 124 Pfe.tax inc:ome 125 Implied commission rate before WfVices markup and IOCs acljuslmenla $34,966,137 $1,093,468 $38,059,603 $53,752,651 $2,801,390 $58,554,041 $92,159,843 $1,073,555 $93,233,198 $165.846.842 $240,144,661 $452,881,054 $758,581,327 s1,451.587.042 $34,515,899 $83,048,603 $102,516,671 $200.081.173 14.4% 13.9% $7,836,336 ($11,756,953) $19,593,291 $10.500.804 ($4,457,499) $14,956,303 5.0% 5.0% 13.5% 13.8% Table E·1A. Ln 113 Table E·1A. Ln 132 Ln 120 + Ln 121 Ln 1221fn 119 Table E·1A, Ln 140 Ln 124/ Ln 123 SeMces l1l4f1wp adjustment SeMces Expenses Total Operating ExpenMa Total Intercompany II'IQlma/(Expenee) 126 Total Sel'llice$ Expen$eS 126 127 129 Markup pen:enlage 130 Sel'llice$ Ualkup 131 Pfe.tax income - aarlllcea markup $20,049,946 $876 $20,049,272 Table E·1A. Ln 125 Table E·1A. Ln 137 • Ln 121 Ln 126 -ln 127 5.0% $979,665 $747,915 $1,002,484 $33,536,234 $82,300,688 $101,514,207 Assumption Ln126xln129 $197,351,130 Ln 124 • Ln 130 132 Implied eommlssion rate before IOCs &4ustment 14.0% 13.8% 13.4% 13.6% Ln 131/ Ln 123 /DC$ adjusttmmt 133 Cost share payment% (IOCs) 134 Implied ne1 commission rala 2.9% 11.0% 2.3% 11.4% 1.9% 11.4% 2.2% 11.4% Table 1.1n 114 Ln125·Ln133 TableE·1A Merchants @ In UK Market !ncome Statement Summary 2005to2007 2Im J.lni 101 102 103 104 105 106 107 106 109 110 111 112 113 114 115 116 117 116 119 Revenues 40850 IGC's - Business Development 40880 Loyally Promotion Discount 41400 Customer Service Adjustments 41201 Customer Refunds Payment Services 41250 Guarantee Refund 42101 Marketplace Royalty Revenue 42510Auclion-Listing Revenue 42520 Auction--Commission Revenue 42530 Payment Services- Auctions 42531 Payment Services • zShops 42562 zShops-Merchandislng Revenue 42570 Merchant Insertion Revenue 42573 Merchant Commission Revenue 42574 Merchant Subscription Revenue 42575 Closing Fee Revenue 42560 MP Giftwrap Commission Revenue 45122 Seier Credits 42620 Other Service Revenue Total Net Revenue 120 Total Cost Of Sales 121 Total Gross Profit Operating Expenses 122 Total Selfmg Expenses 123 Total Administrative Expenses 124 Total Third Party Agreements Total Operating Expenses 125 126 Consolidated Segment Operating Income Other lncomei(Expense) 127 82450 Miscellaneous Gainsi(Losses) 128 83150 Foreign Currency Loss Total 129 $0 ($552,910) ($88,978) ($3.210,328) ($80,145) ~ so $1,939 $31,362 $3,478 $17,808 $27,480 $3,019,199 $34.966.137 $1,946,407 $9,601,205 ($1,880,347) ($85,439) ($3, 781,940) $0 $3 $1,719 $29,320 $2,327 $12,099 $0 $1,457,792 $53,752,651 $2,513,567 $14,397,964 ($104,519) $4.287,618 $49,925,751 $11,406 $6,691,163 $73,382,348 so so so $49,925,751 $23 so $73,382,348 82405 Managemsnt Fee Expense 82407 Royally Expense 824121ntercompany Commission Income 82413lntercompany CommiSSion Expense 82415 Service Fee Income 82416 Service Fee Expense 82417 Data Center lncomeiExpense Total Intercompany lncomet(Expense) 138 Total Other lncomei(Expense) 139 Net Interest Income (Expense) 140 Pre-tax income ($1.031,473) ($2,526,457) ($94,482) ($6,101,923) ~ $4,092,089 $92,159,643 $3.937,989 $24,036,230 $3,588 $438,693 $6,558,480 $121,510,624 Table E-18 +Table E-1C, Ln 101 Table E-18 +Table E-1C, Ln 102 Table E-18 +Table E-1C, Ln 103 Table E-18 +Table E·1C, Ln 104 Table E-18 +Table E·1C, Ln 105 Table E-18 +Table E·1C, Ln 108 Table E-18 +Table E·1C, Ln 107 Table E·1B +Table E·1C, Ln 108 Table E-18 +Table E-1C, Ln 109 Table E-18 +Table E-1C, Ln 110 Table E-18 +Table E·1C. Ln 111 Table E-18 +Table E·1C, Ln 112 Tabla E-18 +Table E-1C, Ln 113 Table E-18 +Table E-1C, Ln 114 Table E-18 +Table E-1C, Ln 115 Tabla E-18 +Table E-1C, Ln 116 Table E-18 +Table E-1C, Ln 117 Tabla E-18 +Table E-1C, Ln 118 Sum Lns 101 to 118 $27,191 $121,483,433 Table E-18 +Table E-1C, Ln 120 Ln 119- Ln 120 so $0 $1,620 $29,862 $1,043 $5,522 so $0 $0 $7,886,338 $10,500,804 $7,836,338 $10,500,604 ($9,280) $20,080,602 ($21,374) $20,049,948 $42,069,413 $62,881,544 $101,433,485 $342,413 $1,967 $344,360 $5,966 $0 $5,966 Table E-18 +Table E·1C, Ln 127 Table E-18 + Table E·1C, Ln 128 Ln 127 + Ln 128 so $1,074,231 Table E-1 B +Table E·1C, Ln 130 Table E-18 +Table E-1C, Ln 131 Table E-18 +Table E-1C, Ln 132 Table E-18 +Table E·1C, Ln 133 Table E-18 +Table E-1C,ln 134 Table E-18 +Table E-1C, Ln 135 Table E-18 +Table E·1C, Ln 136 Sum Lns 130 to 138 Ln 129 + Ln 137 so ($155,692) ($3,288) ($158,960) so Intercompany tncomei(Expense) 130 131 132 133 134 135 136 137 2Im ($3,506,719) ($5.051,863) $1,093,466 ($3,002,817) $5.560,023 ($5,575,582) ($179,995) ($10,683,487) ($971,430) ($2,123,544) $2,801,390 ($1,254,882) $2,255,733 ($2,254,724) ($106,652) ($1,656,109) ($10,822,467) ($1,311,729) $1,080,197 $3,248,953 $1,478,788 $2,989 $34,515,899 $63,048,603 $102,516,671 $0 $1,073,555 $0 $676 so $0 Table E-18 +Table E·1C, Ln 122 Table E-18 +Table E-1C, Ln 123 Table E-18 +Table E-1C, Ln 124 Sum Lns 122to 124 Ln 121 • Ln 125 Table E·18 +Table E-1C, Ln 139 Ln 126 + Ln 138 + Ln 139 TableE·1B AIM.UK Income Statement Summary 2005to2007 Lilm 101 102 103 104 105 108 107 108 109 110 111 112 113 114 115 116 117 118 119 ZQgi Revenues 40850 IGC's - Business Development 40880 Loyalty Promotion Discount 41400 Customer Service M)Ustmen1S 41201 Customer Refunds Payment Services 41250 Guarantee Refund 42101 Marketplaoe Royalty Revenue 42510 Audion-Listfng Revenue 42520 Auction-Commission Revenue 42530 Payment Services· Auctions 42531 Payment Services - zShops 42562 z:Shops-Merchandising Revenue 42570 Merchant Insertion Revenue 42573 Merchant Commission Revenue 42574 Merchant Subscription Revenue 42575 Closing Fee Revenue 42580 MP Giftwrap Commission Revenue 45122 Seller Credits 42620 Other Service Revenue Total Net Revenue 120 Total Cost Of Sales 121 Tota1 Gross Profit ($552,910) ($88.978) {$3,210,328) ($80,145) ($558.041) ($27,996) ($909,561) NA NA $666 $13.232 $1,201 $5,508 $1,939 $31,382 $3,476 $17,808 $27,480 $3,079,199 $34.966.137 $1,946,407 $9,601,205 NA ($109.332) $4,287,618 $49,920,938 $390,443 $14,202.653 $787,834 $3,834,750 NA $41,388 $2,908,335 $20,69M12 NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA NA $49,920,938 NA $20,690,412 NA NA IDR64 Ln 119 • Ln 120 NA $2,603,052 NA $2,603,052 NA $484,897 NA $484,897 NA NA NA NA IDR64 IDR64 IDR64 Ln 123 NA Ln 119 • Ln 123 Operating Expenses 122 Total Selling Expenses 123 Total Administrative Expenses 124 Total Third Party Agreemen1S 125 Total Operating Expenses 126 Consolidated Segment Operating Income $47.317,886 Other lncome/(Expense) 127 82450 Miscellaneous Gainsi(L.osses) 128 83150 Foreign Currency Loss 129 Total 130 131 132 133 134 135 138 137 Intercompany lncomei(Expense) 82405 Management Fee Expense 82407 Royally Expense 824121nteroompany Commission Income 82413 Intercompany Commission Expense 82415 Service Fee Income 82416 Service Fee Expense 82417 Data Center Income/Expense Total Intercompany lncomei(Expense) 138 Total Other lncomei(Expense) 139 Net Interest Income (Expense) 140 Pre-tax income §m.u:m $0 $0 $20,205,515 IDR64 IOR64 IDR64 IOR64 IDR64 IDR64 IDR64 IDR64 IOR64 1DR64 IDR64 IOR64 IDR64 IOR64 IDR64 IOR64 IOR64 Sum Lns 102 to 118 ($199,436) NA ($199,436) $169,793 NA $169,793 NA NA NA IDR64 IOR84 Ln 127 + Ln 128 ($3,506,719) ($5,051,863) $1,093,486 ($3,002,617) $221 ($5,554,371) ($179,995) ($16.202,078) ($971,430) ($2,123,544) $965,231 ($1,242,326) $176 ($2,254,724) ($108,652) ($5. 735,269) NA NA NA NA NA NA NA IDR64 IDR64 IDR64 IDR64 IDR64 IDR64 1DR64 Sum Lns 130 to 136 ($16,401,514) ($5,565,476) NA Ln 127 + Ln 137 $2,659,944 $726,359 NA IOR64 $33,576,316 $15.366,398 NA Ln 126 + Ln 138 + Ln 139 Note; Date for Company--40 (Amazon Inn Marketplace - UK) NA Table E·1C ASE.UK _Income Statement Summary 2005to2007 l.illl 101 102 103 104 105 106 107 106 109 110 111 112 113 114 115 116 117 118 119 ~ Revenues 40850 IGC's - Business Development 40880 Loyalty Promotion Discount 41400 Customer Service Adjusltnents 41201 Customer Refunds Payment Services 41250 Guarantee Refund 42101 Marketplace Royalty Revenue 42510 Auclion-Listlng Revenue 42520 Auction-Commission Revenue 42530 Payment Services- Auctions 42531 Payment Services - zShops 42562 zShopa-Merchandising Revenue 42570 Merchant Insertion Revenue 42573 Merchant Commission Revenue 42574 Merchant Subscription Revenue 42575 Closing Fee Revenue 42580 MP Giftwrap Commission Revenue 45122 SeDer Credits 42620 Other Service Revenue Total Net Revenue 120 Total Cost Of Sales 121 Total Gross Profrt $0 $0 $0 $0 NA $0 $0 $0 $0 $0 NA $0 $0 $0 $0 $0 $4,813 ~ $0 ($1,322,306) ($57,443} ($2,872,379) NA $3 $1,053 $16,068 $1,126 $6,591 NA $1.067,349 $39,549,998 $1,785,753 $10,563,234 $23 $4,813 ($29,982) $3,982,828 $52,691.936 $0 $4,813 $52,691,936 $0 $0 ~ ($1,031,473} ($2,526,457) ($94,462) ($6,101,923) NA .§s!.I!Jg $4,092,069 $92,159,643 $3,937,989 $24,036,230 $3,568 $438,893 $6,558,460 $121,510,624 IDR64 IDR64 IDR64 IOR64 IDR64 IDR64 IDR64 IOR64 IDR64 IDR64 IDR64 IDR64 IOR64 IOR64 IDR64 IDR64 IDR64 IDR64 Sum lns 101 to 118 $27,191 $121,463,433 Ln 119- Ln 120 $0 $1.620 $29,862 $1,043 $5,522 NA IDR64 Operating E/Cf)eiiSeS 122 Total Selling Expenses 123 Total Administrative Expenses 124 Total Third Party Agreemerrts 125 Total Operating Expenses 126 Consolidated Segment Operating Income Other tncomei(Expense) 127 82450 Miscellaneous Gainsi(Losses) 128 63150 Foreign Currency Loss 129 Total 130 131 132 133 134 135 136 137 lnteroompany lncomei(ExpenS~~) 82405 Management Fee Expense 82407 Royalty Expense 824121ntaroompany Commission Income 824131ntaroompany Commission Expense 82415 Service Fee Income 82416 Service Fee Expense 82417 Data Center tnoomeiExpense Total $0 $0 $5,233.286 $10,015,907 $5,233,286 $10,015,907 ($5.228,473) $42,676,029 $101.433,485 Ln 121 - Ln 125 $43,744 {$3,288) $40,456 $172,620 $1,967 $174,587 $5,986 IOR64 IOR64 Ln 127 + Ln 128 so $0 ($9,280) $20,080,802 ($21,374) $20,049,948 $0 $5,966 IDR64 IDR64 IDR64 Sum Lns 122 to 124 NA NA $0 $0 $5,559,802 ($21,211) NA $5,538,591 NA NA $1.838,159 ($12,558) $2,255,557 NA $4,079,160 $1,074,231 IDR64 IDR64 IDR64 IDR64 IDR64 IDR64 IDR64 Sum Lns 130 to 136 138 Total Other lnoome/(Expense) $5,579,047 $4,253,747 $1,080,197 Ln 129 + Ln 137 139 Net Interest Income (Expense) $589,009 $752,429 $2,989 140 Pre-tax income $939,563 $47,682,205 $102,516,671 Note: Date for Company--4U (Amazon Services Europe UK) $0 NA NA $1,073,555 $0 $676 $0 NA IDR64 Ln 126 + Ln 138 + Ln 139 TableE..Z Merchanls 0 In DE Martt ltM:onle $2SS.755 ($1.810,775) ~ Total ~ ($702,410) ($2,257.430) lilll!!l