Academic perspectives on optimal debt structure and bankruptcy costs

July 21, 2025 by Snehasish CHINARA

In this article, Snehasish CHINARA (ESSEC Business School, Grande Ecole Program – Master in Management, 2022-2025) explores the academic evolution of capital structure theory, focusing on the delicate balance between debt and equity financing. Starting from the foundational Modigliani and Miller propositions, this post delves into how the introduction of real-world frictions—particularly bankruptcy costs and financial distress—gave rise to the Trade-Off Theory.

Introduction to Capital Structure

Capital structure refers to the mix of debt and equity financing that a company uses to fund its operations and growth. It is a critical component of corporate finance, as it directly impacts a firm’s cost of capital, financial risk, and overall valuation.

Capital structure is reflected in a company’s balance sheet, which provides a snapshot of its financial position at a given point in time. Specifically, it is composed of two primary financing sources:

1. Debt (Liabilities) – Found under the Liabilities section, debt includes short-term borrowings, long-term loans, bonds payable, and lease obligations. Debt financing requires periodic interest payments and repayment of principal, increasing financial obligations but also benefiting from potential tax shields.

2.Equity (Shareholders’ Equity) – Located under the Shareholders’ Equity section, equity includes common stock, preferred stock, retained earnings, and additional paid-in capital. Equity financing does not require fixed interest payments but dilutes ownership among shareholders.

Table 1 below gives a simplified version of a balance sheet.

Table 1 – Simplified Balance Sheet Example

Table 1 shows that the firm finances its $350M in assets with $140M in debt (40%) and $210M in equity (60%), demonstrating a debt-to-equity ratio of 0.67 (=140/210). Additionally, the debt ratio, D/(D+E), measures the proportion of total financing that comes from debt 40% (=140/(140+210)). This indicates that a significant portion of capital is funded through borrowed money, allowing the company to take advantage of the use of debt, but also exposing it to higher financial risk if it faces difficulties in meeting debt obligations. These ratios are a few key indicators used to assess a company’s financial leverage and risk exposure.

Beyond Taxes — The Real-World Cost of Debt

Capital structure theory begins with Modigliani and Miller (1958), who argued that in a perfect market—with no taxes or distress costs—a firm’s value is unaffected by its mix of debt and equity. This implies that financing decisions are irrelevant: the firm’s cost of capital remains unchanged regardless of leverage.

Their later work in 1963 introduced corporate taxes, shifting the narrative. Since interest is tax-deductible, debt creates a tax shield that reduces taxable income, lowering the firm’s WACC and increasing its value. In theory, this would mean the more debt a firm uses, the better.

However, this doesn’t match real-world behaviour. Firms rarely use excessive debt. To explain this, Miller (1977) brought personal taxes into the picture. While firms benefit from interest deductibility, investors may face higher taxes on interest income compared to equity income. This reduces the net benefit of debt. At the market level, an equilibrium emerges where additional debt offers no further advantage—explaining why firms stop before 100% leverage.

Together, M&M and Miller show why debt can be attractive due to tax savings—but they don’t account for the costs of debt, which are crucial in practice. This article now turns to academic perspectives that build on these theories by introducing bankruptcy costs, financial distress, and agency issues, offering a more complete view of how firms decide on an optimal capital structure.

The Trade-Off Theory: Balancing Tax Shields and Bankruptcy Costs

While M&M (1963) and Miller (1977) emphasize the tax advantages of debt, real-world firms don’t pursue unlimited leverage. Why? Because with higher debt comes higher financial risk. This leads to the Trade-Off Theory—a more realistic and widely taught framework in modern corporate finance.

At the heart of this theory lies a simple question: How much debt is too much?

The Trade-Off Theory proposes that firms weigh the benefits of debt (primarily the interest tax shield) against the costs of debt (most notably bankruptcy risk and financial distress costs). The optimal capital structure is achieved when the marginal benefit of taking on more debt equals its marginal cost. Therefore, firms pick capital structure by trading off the benefits of the tax shield from debt against the costs of financial distress (including agency costs of debt).

This framework leads to a simple but powerful relationship:

where:

V_L is the value of a levered firm using debt.

V_U is the value of a unlevered firm not using debt but only equity

Tax shield benefits: arising from the tax deductibility of interest payments

Expected bankruptcy cost: a function of both the probability of distress and the magnitude of associated losses (probability of distress x cost if distress occurs)

The Trade-Off Theory argues that the value of a firm initially increases with debt due to tax savings from interest deductibility, but only up to a point. Beyond that, the probability of bankruptcy and the costs associated with financial distress begin to outweigh the benefits of the tax shield. Due to this, there exists an optimal capital structure where the marginal benefit of debt exactly equals its marginal cost.

Tax shield benefit: This term represents the annual tax saving due to deductible interest.

where:

T_C: Corporate tax rate

r_D: Interest rate on debt

D is the amount of debt of the firm

Expected Bankruptcy Cost:

This cost includes:

Direct costs (legal, administrative): typically 2–5% of firm value

Indirect costs (reputation, supplier reactions, customer attrition): potentially far higher

How Firm Value Changes with Debt

According to the Trade-off Theory, the total value of a levered firm equals the value of the firm without leverage plus the present value of the expected tax savings from debt, less the present value of the expected financial distress costs.

It is represented as follows:

where:

V_L is the value of a levered firm using debt.

V_U is the value of a unlevered firm not using debt but only equity

Firms should increase leverage until they reach the optimal level where the firm value (and the net benefit of debt) is maximized. At the optimal leverage, the marginal benefits of interest tax shields that result from increasing leverage are perfectly offset by the marginal costs of financial distress.

Figure 1 – Trade-Off Theory Optimal Leverage

Source: “The Static Theory of Capital Structure” Brealey, Myers, & Allen

Figure 1 above illustrates the Trade-Off Theory of capital structure, which posits that a firm’s value is influenced by two opposing forces: the benefits of debt and the costs of financial distress.

The upward-sloping blue line represents the firm’s value if we consider only the corporate tax advantage of debt, where each additional unit of debt increases firm value by the present value of the tax shield (Tc×D). However, this idealized trajectory (as per M&M 1963) does not account for real-world frictions.

As leverage rises, so too does the probability of financial distress, bringing with it both direct costs (legal and administrative expenses) and indirect costs (reputation damage, lost sales, supplier concerns). These rising costs are reflected by the gap between the blue and pink curves.

The pink curve represents the actual value of a levered firm after subtracting distress costs. It shows the actual value of the firm once these financial distress costs are taken into account. Initially, this curve rises along with the tax shield benefits. But after a certain point, the marginal cost of debt begins to exceed its marginal benefit, causing the curve to flatten and then decline.

The pink curve peaks at the point marked D∗—the firm’s optimal capital structure. The point D∗ is the optimal amount of debt where the marginal benefit of the tax shield is exactly offset by the marginal expected cost of financial distress.

To the left of D∗, adding more debt increases firm value; to the right of it, further leverage diminishes value. The curve therefore reflects a concave relationship between debt and firm value, with the maximum point corresponding to the firm’s optimal capital structure.

Figure 1 delivers three core insights:

Leverage is a double-edged sword—it creates value through tax savings but erodes it through risk.

The optimal debt level is not universal—it depends on a firm’s industry, asset type, cash flow stability, and access to capital markets.

Real-world capital structure decisions are about finding a balance, not maximizing one benefit in isolation.

Static vs. Dynamic Trade-Off Models: From Simplified Theory to Real-World Complexity

The traditional Trade-Off Theory provides a powerful intuition: firms balance the benefits of debt (tax shields) against its costs (financial distress). However, how firms actually make capital structure decisions over time is more complex than the simple static view. This brings us to an important academic distinction: static vs. dynamic trade-off models.

Static Trade-Off Models: A Snapshot of Capital Structure

A static trade-off model is a one-period, one-time optimization framework. It assumes that a firm evaluates all its financing options at a single point in time and selects the capital structure that maximizes firm value. The firm is thought to instantly move to its optimal leverage ratio and maintain it indefinitely.

This model gives us a clean formula for firm value:

While this is helpful in teaching and early analysis, it oversimplifies real-world decision-making. Firms don’t reset their debt every day based on a formula. Instead, they must plan, adjust, and adapt—which is where dynamic models offer deeper insight.

Dynamic Trade-Off Models: Capturing Real-World Decision-Making

Dynamic trade-off models build on the static framework by recognizing that:

Capital structure is adjusted over time, not all at once. Firms face adjustment costs when issuing new debt or equity (e.g., flotation costs, signaling effects).

Business conditions, tax environments, interest rates, and risk evolve. Managers are forward-looking—they consider not only current benefits and costs but also future risks, taxes, and financing needs.

In these models, the optimal debt level is not a fixed point. Instead, firms operate within a target range of leverage and make gradual adjustments toward it when the benefits outweigh the costs of doing so.

For example:

A firm may not issue new debt today even if it’s slightly under-leveraged, because issuing comes with costs. It might instead wait for a better interest rate, a tax law change, or an internal cash flow event.

Dynamic models are particularly well-captured in the work of:

Fischer, Heinkel, and Zechner (1989) – who modelled how firms behave in a stochastic environment where recapitalization is costly.

Leland (1994) – who showed that default thresholds and optimal leverage depend on firm value and volatility over time.

Types of Bankruptcy Costs: The Hidden Burden of Excessive Leverage

While tax benefits of debt are quantifiable and immediate, the costs of financial distress—especially bankruptcy—are more nuanced, less visible, and often underestimated. These costs are central to the Trade-Off Theory, and understanding their components is essential for evaluating real-world capital structures.

Bankruptcy costs can be broadly classified into three types:

1. Direct Bankruptcy Costs

These are the explicit, out-of-pocket expenses incurred during legal bankruptcy proceedings.

Legal fees, court costs, bankruptcy consultants

Administrative expenses, such as auditing and trustee services

Empirical studies suggest that direct costs range from 2–5% of firm value, though they may be higher in complex bankruptcies. While these are easier to measure, they are not necessarily the largest component.

Example: A manufacturing firm with a $500 million valuation that enters Chapter 11 could incur $10–25 million in legal and court-related costs alone.

2. Indirect Bankruptcy Costs

These are opportunity costs or value losses incurred even if bankruptcy does not occur—simply being in distress can harm the business.

Loss of customers: Buyers lose trust in a distressed brand.

Supplier tightening: Suppliers demand advance payments or withdraw credit.

Employee turnover: Top talent exits due to job insecurity.

Delayed investments: Management focuses on liquidity over strategy.

Indirect costs are often much larger than direct ones—estimated at 10–20% of firm value in some studies.

Example: A hotel chain facing debt pressure may see a fall in bookings, reduced vendor support, and higher staff attrition—impacting operations even before legal proceedings begin.

3. Agency Costs of Debt

As financial distress increases, so do agency conflicts between debt holders and equity holders.

Two prominent issues are:

Asset Substitution Problem – Shareholders may prefer riskier projects with higher upside (but higher default risk) because they capture the gains, while losses are partially borne by creditors.

Underinvestment Problem – Highly leveraged firms might pass on positive NPV projects because the gains would go to debt holders, not shareholders. Thus, debt discourages investment when it is most needed.

These agency costs distort management incentives, especially when firms are close to violating debt covenants or already under pressure.

Academic Contributions on Bankruptcy and Alternative Views on Capital Structure

Pecking Order Theory and Information Asymmetry

Contrasting the Trade-Off Theory, Myers and Majluf (1984) introduced the Pecking Order Theory, which prioritizes financing sources based on information asymmetry. Firms prefer internal financing (retained earnings) first, then debt, and issue equity only as a last resort. This hierarchy arises because managers possess more information about the firm’s value than external investors, leading to adverse selection concerns when issuing new equity.

Dynamic Models of Capital Structure

Recognizing that capital structure decisions are not static, researchers have developed dynamic models to reflect real-world complexities. Leland (1994) incorporated factors such as agency costs, taxes, and bankruptcy costs into a continuous-time framework, providing insights into how firms adjust their leverage over time in response to changing conditions.

Human Capital and Bankruptcy Risk

Recent studies have explored the interplay between human capital and capital structure. For instance, research by Berk, Stanton, and Zechner (2010) examines how firms with significant human capital considerations may adopt lower leverage to mitigate the adverse effects of financial distress on their workforce and overall operations.

Empirical Evidence and Contemporary Reviews

Empirical studies have tested these theories across various contexts. For example, research published in the Journal of Finance investigates how bankruptcy risk influences firms’ capital structure choices, revealing an inverse relationship between bankruptcy risk and leverage. Comprehensive literature reviews, such as those by Cerkovskis et al. (2022) and Visinescu and Micuda (2023), provide critical analyses of the evolution and empirical validation of capital structure theories, offering valuable insights for both scholars and practitioners.

Practical Considerations in Capital Structure Decisions

While theories like Modigliani-Miller (M&M), the Trade-Off Theory, and Agency Cost Theory provide useful frameworks for understanding capital structure, real-world evidence shows that firms consider multiple factors beyond theory when making financing decisions. Empirical studies highlight how industries, economic conditions, credit ratings, and market perceptions influence a company’s choice between debt and equity.

Real-World Capital Structure Choices

Empirical research supports the idea that firms do not strictly follow any single capital structure theory but instead balance tax advantages, financial flexibility, and risk. Some key observations from real-world studies include:

Myers (1984) found that firms follow a “Pecking Order” when raising funds, preferring internal financing (retained earnings) first, followed by debt, and issuing equity as a last resort due to information asymmetry.

Graham (2000) estimated that firms use only about 60% of the potential tax benefits of debt, indicating that firms hesitate to take on excessive leverage due to bankruptcy risks.

Frank & Goyal (2009) confirmed that larger, more profitable firms tend to have higher leverage, while smaller, riskier firms avoid debt due to financial distress concerns.

These studies suggest that firms do not maximize leverage, but rather choose a debt level that balances benefits and risks based on firm size, profitability, and market conditions.

Why Should I Be Interested in This Post?

Understanding a firm’s optimal debt structure is essential for anyone involved in finance, strategy, or investment analysis. Whether you’re an investor evaluating risk, a finance professional shaping capital decisions, or a student building foundational knowledge, the trade-off between debt and equity lies at the core of corporate financial strategy. This post offers a deep dive into the academic perspectives on capital structure, highlighting how bankruptcy costs, financial distress, and tax considerations influence real-world financing decisions. By mastering these concepts, you’ll be better equipped to assess firm value, understand risk-return dynamics, and make more informed financial judgments in a world where leverage can both create and destroy value.

Useful resources

US Courts Data – Bankruptcy

S&P Global – Bankruptcy Stats

Statista – Bankruptcy data

About the author

The article was written in July 2025 by Snehasish CHINARA (ESSEC Business School, Grande Ecole Program – Master in Management, 2022-2025).

Optimal capital structure with corporate and personal taxes: Miller 1977

July 21, 2025July 20, 2025 by Snehasish CHINARA

In this article, Snehasish CHINARA (ESSEC Business School, Grande Ecole Program – Master in Management, 2022-2025) explores the optimal capital structure for firms, which refers to the balance between debt and equity financing. This post focuses on how the impact of personal taxes on the firm capital structure. The author unpacks Miller’s 1977 proposition, which presents a formula for calculating the right tax advantage of debt, and explains how it helps reconcile theory with what we actually observe in practice.

Introduction

When Modigliani and Miller introduced their capital structure theory in 1958, they shook the foundations of corporate finance. They argued that, in a perfect market with no taxes, no bankruptcy costs, and no frictions, a firm’s value is completely independent of how it is financed. In other words, it doesn’t matter whether a firm uses debt, equity, or a combination of both—the total firm value remains the same.

In 1963, Modigliani and Miller revised their theory to incorporate corporate taxes. With this adjustment, interest payments on debt are tax-deductible, and then provide firms with a “tax shield” that effectively reduces the cost of debt. This made debt financing more attractive than equity, leading to the conclusion that firms should increase their leverage to maximize their value (ideally reaching a 100 debt ratio). In the extreme, this version of the theory suggested that firms should be financed entirely with debt to benefit from the maximum tax advantage.

However, the real world tells a different story. Very few firms rely solely on debt. In fact, most maintain a balanced mix of debt and equity. If debt is supposedly so advantageous under corporate tax rules, why don’t we see more of it being used? This is where Merton Miller’s 1977 work offers a crucial refinement to the theory.

Miller introduced a critical yet often overlooked component into the capital structure discussion: personal taxes. While interest payments are tax-deductible at the corporate level, the income received by investors—whether as interest or dividends—is also subject to personal taxation. Importantly, interest income is often taxed at a higher rate than equity income (like capital gains or dividends). This means the supposed advantage of debt at the corporate level may be offset—or even completely nullified—by the higher tax burden borne by investors.

Modigliani-Miller 1963 Theorem (M&M 1963)

Let us first remind you about the main findings of Modigliani and Miller (1963). In their revision of their first article published a few years earlier (1958), their theory about the firm capital structure introduced corporate taxes, which has a crucial impact on their earlier conclusions which found that the capital structure was irrelevant. They recognized that, in most economies, governments impose corporate income tax, but companies can deduct interest payments on debt from their taxable income. This interest tax-shield increases the after-tax profits of a firm and thereby raises its overall value.

The tax shield refers to the reduction in taxable income that results from interest payments on debt. Since interest expenses are tax-deductible, they effectively reduce the amount of taxes a company owes. This provides a direct financial benefit to firms that use debt financing, making it a valuable tool for optimizing capital structure.

The formula for the tax shield is:

This means that, under the M&M (1963) proposition, the value of a leveraged firm is given by:

where:

V_L is the value of a levered firm using debt.

V_U is the value of a unlevered firm not using debt but only equity

T_c is the Corporate tax rate

D is the amount of debt of the firm

This formula shows that the value of a firm increases by the amount of tax shield (Tc⋅D) when debt is introduced into the capital structure. The more debt a company takes on, the greater the tax benefit, making debt financing more attractive than equity financing.

Miller (1977): The Role of Personal Taxes in Capital Structure

Modigliani and Miller’s 1963 revision made a powerful case for debt: because interest payments are tax-deductible, firms enjoy a tax shield that reduces their cost of capital. The logical (but extreme) implication of this idea was that firms should maximize debt in their capital structure. However, the theory still fell short of explaining reality—most firms do not load up on debt. Why?

This is where Merton Miller’s 1977 paper brought a major refinement. While M&M (1963) focused on corporate taxes, Miller highlighted the crucial role of personal taxes paid by investors. Specifically, he noted that:

Interest income (from bonds or loans) is typically taxed at a higher personal rate (T_Pi),

While equity income (via dividends or capital gains) is often taxed at a lower rate (T_Pe).

Thus, although the firm saves taxes through debt, the investor receiving interest income may lose part of that advantage due to higher personal taxes. Miller argued that the tax benefit of debt is not universal—it depends on the relative tax positions of the firm and its investors.

Miller quantified the net tax advantage of debt with the following formula:

where:

T_Pi is the personal tax rate on interest income

T_Pe is the personal tax rate on equity income (dividends/capital gains)

T_c is the corporate tax rate

This expression compares the after-tax returns from debt and equity financing, from both the firm’s and investor’s perspectives.

Value of a Levered Firm according to Miller (1977)

In Miller (1977), the value of the firm incorporates both:

1. The corporate tax shield (from M&M 1963), and

2. The personal tax disadvantage from investor taxation on interest income.

Unlike M&M 1963 (which assumed value keeps increasing with leverage due to tax shields), Miller showed that the firm’s value plateaus at an equilibrium level, reflecting the offsetting effect of personal taxes.

There isn’t a single formula as elegant as in M&M 1963 because Miller focuses on market equilibrium, not firm-level maximization. But we can express the adjusted value of a levered firm relative to the unlevered firm as:

that is,

where:

V_L is the value of a levered firm using debt.

V_U is the value of a unlevered firm not using debt but only equity

T_c is the Corporate tax rate

T_Pi is the personal tax rate on interest income

T_Pe is the personal tax rate on equity income (dividends/capital gains)

D is the amount of debt of the firm

Figure 1. Firm Value vs Debt according to Miller 1977 Theorem

where:

T_c is the Corporate tax rate

T_Pi is the personal tax rate on interest income

T_Pe is the personal tax rate on equity income (dividends/capital gains)

The Equilibrium Capital Structure Across Firms

One of the most insightful—and often misunderstood—contributions of Miller (1977) is that there is no single “optimal” capital structure for all firms. Instead of recommending that every company should maximize debt (as M&M 1963 might suggest), Miller argued that the optimal mix of debt and equity depends on the broader market, not just individual firm decisions. His approach introduced a market-level equilibrium perspective, which helps us understand the diverse financing strategies we observe in the real world.

Miller recognized that not all investors are taxed equally. Some investors—like pension funds, endowments, or individuals in low tax brackets—are less affected by taxes on interest income. These investors prefer debt because they can earn stable interest income without facing significant tax penalties. On the other hand, investors in higher tax brackets might favour equity, particularly because capital gains and dividends are often taxed at lower rates than interest income.

This diversity in investor preferences (from different personal tax rates) creates a kind of natural balance in the financial markets. Some firms will issue more debt to attract income-focused investors, while others will rely more on equity to appeal to investors who value capital gains. Over time, this leads to a market equilibrium in which different firms adopt different capital structures based on the preferences of the investors they attract.

In reality, we do not see all firms aggressively using debt to lower their tax bills. Instead, we see some firms—like utilities or financial institutions—using higher levels of debt, while others—like tech startups or growth firms—rely more on equity. This variation observed in practice aligns perfectly with Miller’s theory. The aggregate tax advantage of debt is “used up” across the economy, so not every firm needs to (or should) leverage itself heavily.

Firms essentially compete for investor types, and their capital structure decisions reflect the marginal investor’s personal tax situation. In this way, the equilibrium is not found at the level of a single firm, but across the entire set of firms.

How Miller (1977) Redefined the Cost of Equity and WACC from Modigliani-Miller (1963)

In M&M (1963), the introduction of corporate taxes led to a crucial insight: because interest payments are tax-deductible, debt financing creates a tax shield that reduces the firm’s Weighted Average Cost of Capital (WACC). The model predicted that, as leverage increases, WACC decreases, and firm value rises—implying that a firm should use as much debt as possible to minimize its cost of capital.

This had a direct impact on the cost of equity as well. In M&M (1963), the cost of equity (rE) increases with leverage to compensate for the rising risk faced by shareholders:

where:

r_E is the cost of equity for a levered firm

r_U is the cost of equity for an unlevered firm

r_D is the cost of debt

D/E is the debt to equity ratio measuring leverage

Here, while the cost of equity increases due to higher financial risk, the overall WACC falls, thanks to the tax shield:

Where: V is the Value of the firm (V= D + E)

Miller (1977) introduced personal taxes into the equation—something that M&M (1963) completely ignored. He observed that investors are not only taxed at the corporate level but also at the personal level:

Interest income is taxed at the personal level (personal tax rate on interest income: T_Pi)
Equity dividends and capital gains are taxed at the personal level (personal tax rate on equity: T_Pe)

Crucially, interest income is taxed more heavily than equity dividends and capital gains: T_Pi > T_Pe. This is the case in the United States and most developed countries.

This alters the perceived tax advantage of debt as the benefit of corporate tax deductibility may be neutralized—or even outweighed—by the higher taxes on interest income.

While Miller (1977) didn’t give a neatly adjusted cost of equity formula like Modigliani and Miller (1963), he did show that the tax advantage of debt financing is not universal—it depends on both corporate and personal tax rates. This led to a redefinition of the net tax advantage of debt, which in turn affects WACC:

And so, the adjusted value of the tax shield, and by extension the impact of debt on WACC, becomes:

Using this expression, the WACC becomes:

where,

T_c is the Corporate tax rate

T_Pi is the personal tax rate on interest income

T_Pe is the personal tax rate on equity income (dividends/capital gains)

D/V is the proportion of debt in the capital structure

E/V is the Proportion of equity in the capital structure

r_E is the cost of equity for a levered firm

r_D is the cost of debt

This means that the WACC no longer declines indefinitely with debt. Instead, as the tax burden on interest income increases (via Ti ), the marginal benefit of debt diminishes. At market equilibrium, the advantage of debt disappears, and WACC flattens—explaining why we observe moderate, not extreme, debt usage in practice.

If Ti > Te and corporate tax Tc is high, debt still offers a net tax advantage, though smaller than in M&M (1963).

If the term in brackets equals zero, there is no net tax advantage—WACC remains flat regardless of leverage.

If the term becomes negative, equity becomes more tax-efficient, and adding debt raises the WACC.

Why Should I Be Interested in This Post?

In corporate finance, the debate around how much debt a firm should take on is far from settled. While traditional models like Modigliani-Miller (1963) emphasize the tax benefits of debt, they ignore the taxes investors pay. This post introduces the groundbreaking Miller (1977) framework, which shows how personal taxes can offset corporate tax advantages, reshaping our understanding of optimal capital structure. If you’re a finance student, investor, or aspiring professional, understanding this equilibrium-based view will give you a more realistic—and nuanced—perspective on how real-world firms decide between debt and equity.

Useful resources

US Courts Data – Bankruptcy

S&P Global – Bankruptcy Stats

Statista – Bankruptcy data

About the author

The article was written in July 2025 by Snehasish CHINARA (ESSEC Business School, Grande Ecole Program – Master in Management, 2022-2025).

Optimal capital structure with taxes: Modigliani and Miller 1963

July 20, 2025 by Snehasish CHINARA

In this article, Snehasish CHINARA (ESSEC Business School, Grande Ecole Program – Master in Management, 2022-2025) explores the optimal capital structure for firms, which refers to the balance between debt and equity financing. This post dives into the article written by Modigliani and Miller (1963) which explores the case of corporate tax and a frictionless market (no bankruptcy costs).

Introduction to Modigliani and Miller Propositions

In 1958, Franco Modigliani and Merton Miller introduced a groundbreaking theory on capital structure, famously known as the M&M Proposition. Their research concluded that, under certain ideal conditions, the way a company finances itself—whether through debt or equity—does not affect its overall value. This result, known as the Capital Structure Irrelevance Principle, was based on assumptions such as no corporate taxes, no bankruptcy costs, and perfect capital markets. The intuition behind this idea is simple: if investors can create their own leverage by borrowing personally at the same rate as firms, then a company’s financing mix should not matter for its value.

According to M&M Proposition I (1958), in a frictionless world:

where:

V_L is the value of a levered firm using debt.

V_U is the value of a unlevered firm not using debt but only equity

Key Assumptions:

No taxes (in reality, firms pay corporate taxes).

No bankruptcy costs (in reality, firms pay costs if they go bankrupt).

No financial distress (in reality, too much debt can make investors nervous).

However, this initial model had a major limitation: it ignored the effect of corporate taxes. In reality, most governments tax corporate profits, but they allow firms to deduct interest expenses on debt from taxable income. This means that using debt provides a tax advantage, which was missing from the 1958 model. Recognizing this, Modigliani and Miller revised their original work in 1963, introducing the impact of corporate taxes. Their new findings dramatically changed the conclusion: debt financing increases firm value because interest payments reduce taxable income, creating a tax shield. This update laid the foundation for modern corporate finance by showing that, with corporate taxes, firms should prefer debt over equity.

Modigliani-Miller 1963 Theorem (M&M 1963)

Modigliani and Miller’s 1963 revision to their capital structure theory introduced the concept of corporate taxes, which has a crucial impact on their earlier conclusions. They recognized that, in most economies, governments impose corporate income tax, but companies can deduct interest payments on debt from their taxable income. This interest tax-shield increases the after-tax profits of a firm and thereby raises its overall value.

The formula for the tax shield is:

Since interest expense is calculated as:

Therefore, the tax shield for a single year becomes:

The Modigliani-Miller (1963) model assumes perpetual debt primarily for simplification and mathematical clarity. The use of perpetual debt helps in calculating the present value of the tax shield without the need for complex discounting over a finite period.

If the firm has perpetual debt, meaning it never repays the principal and continues paying interest forever, the total value of the tax shield is found by calculating the present value of all future tax shield benefits. Since the tax shield is received every year indefinitely, its present value is:

Using the cost of debt (rd) as the discount rate, we get:

The (rd) cancels out, simplifying to:

This means that, under the M&M (1963) proposition, the value of a leveraged firm is given by:

where:

V_L is the value of a levered firm using debt.

V_U is the value of a unlevered firm not using debt but only equity

T_c is the Corporate tax rate

D is the amount of debt of the firm

Figure 1. Firm Value vs Debt according to M&M 1963 Theorem

In simple terms, taxes make debt financing more beneficial because firms pay interest on debt before paying taxes, reducing their taxable income. On the other hand, dividends paid to equity shareholders are not tax-deductible, meaning that firms must pay taxes on their entire profit before distributing dividends.

Implication for Capital Structure Decisions:

Firms benefit from using debt due to the tax shield, leading to a preference for more leverage.

The Modigliani-Miller (1963) model with taxes suggests that because of the tax shield on debt, a firm’s value increases as it takes on more debt. The formula for value of a levered firm according to M&M(1963) shows that every additional unit of debt directly increases firm value by the tax savings it provides. In theory, this means that a firm should finance itself entirely with debt (100% debt financing) to maximize its value. This is a significant departure from M&M (1958), where capital structure had no effect on firm value.

Limitations

However, in real-world scenarios, firms do not rely solely on debt. This is because excessive debt increases the risk of financial distress and bankruptcy costs, which M&M (1963) did not initially consider.

Case Study: Implications of M&M 1963 (Optimal Capital Structure with corporate taxes)

Alpha Corp operates in an imperfect capital market (with taxes only). It has two financing options for the capital structure:

Option 1: equity only (100% equity, 0% debt)

Option 2: debt and equity (60% equity, 40% debt)

Each option funds a $100 million investment that generates an annual operating income of $10 million. The risk-free interest rate is 5%, and the corporate tax rate is 30%.

Figure 2. Simplified Balance Sheet of Alpha Corp

Table 1. M&M 1963: an Example

Based on Table 1, the key takeaways are as follows:

1.Debt Creates a Tax Shield:

Under Option 2 (40% debt, 60% equity), Alpha Corp pays €2 million in interest expense, reducing taxable income from €10 million to €8 million.

This results in a lower corporate tax payment (€2.4 million instead of €3 million), leading to a €600,000 tax shield benefit.

2.Net Income is Lower with Debt, But Firm Value Increases:

Despite reducing tax liability, net income under Option 2 (€5.6 million) is lower than Option 1 (€7 million) because of interest expenses.

However, the firm’s total value increases due to the tax shield, meaning equity holders still benefit from debt financing.

How Modigliani-Miller (1963) Redefined the Cost of Equity and WACC from Modigliani-Miller (1958)

In Modigliani-Miller (1958), the firm’s capital structure—the mix of debt and equity—was considered irrelevant to its overall cost of capital (WACC) and, by extension, its firm value. This proposition, based on ideal market conditions (no taxes, no bankruptcy costs), argued that whether a firm is financed by debt or equity, the overall cost of capital remains unchanged. The cost of equity increases with leverage because equity holders demand higher returns to compensate for the additional financial risk, but this increase in cost of equity was offset by the lower cost of debt. Therefore, WACC stayed constant regardless of a firm’s capital structure.

However, when Modigliani and Miller (1963) introduced corporate taxes into their model, they demonstrated a significant change in the cost of capital (WACC) and cost of equity dynamics. With the tax deductibility of interest payments on debt, the cost of debt is effectively reduced, which leads to a reduction in WACC. This creates a clear benefit for firms that use more debt in their capital structure, making debt financing a value-enhancing tool. Let’s explore these key differences in detail.

Impact on the Cost of Equity (r_E)

MM (1958) – Cost of Equity Increases with Leverage

Under the Modigliani-Miller (1958) framework, the cost of equity (rE) increases as a firm takes on more debt because equity holders demand higher returns for taking on additional risk due to leverage. The relationship between cost of equity and leverage is described by the following formula:

where:

r_E is the cost of equity for a levered firm

r_U is the cost of equity for an unlevered firm

r_D is the cost of debt

D/E is the debt to equity ratio measuring leverage

This formula shows that as a firm increases its debt, its cost of equity increases to compensate for the increased financial risk borne by equity holders. However, since debt is cheaper than equity, the overall WACC remains unchanged.

MM (1963) – Tax Shield Reduces the Impact on Cost of Equity In MM (1963), the introduction of corporate taxes changes the scenario. Since interest expenses on debt are tax-deductible, the effective cost of debt (r_D) becomes lower. This reduces the overall risk for the firm and, therefore, the increase in the cost of equity (r_E) is less severe than in MM (1958). The new formula for cost of equity becomes:

where Tc is the corporate tax rate. The (1 – Tc) term reduces the increase in cost of equity (r_E), because the firm’s debt is now partially subsidized by the tax shield. This shows that while leverage still increases the cost of equity (r_E), the effect is less pronounced in the presence of tax deductibility of interest payments.

Impact on the Weighted Average Cost of Capital (WACC)

M&M (1958) – WACC Remains Constant Regardless of Leverage

In MM (1958), because the increase in the cost of equity (rE) offsets the benefit of cheaper cost of debt (rD), the WACC remains constant no matter the debt-to-equity ratio. The formula for WACC in this model is:

where:

V=D+E is the total firm value

r_E is the cost of equity for a levered firm

r_D is the cost of debt

D is the total debt

E is the total equity

According to MM (1958), since debt and equity are in perfect balance (i.e., the increase in the cost of equity (r_E) is offset by the lower cost of debt (r_D)), the WACC stays constant. The capital structure—how much debt or equity a firm uses—has no effect on the overall cost of capital or the firm’s value in a world without taxes.

MM (1963) – WACC Declines as Debt Increases

With the introduction of taxes, MM (1963) shows that WACC decreases as a firm increases its debt. The tax shield created by the deductibility of interest payments lowers the effective cost of debt (rD), making debt financing more attractive.

The formula for after-tax WACC in MM (1963) is:

In this scenario, debt financing becomes more advantageous because the firm can lower its overall WACC by utilizing debt, which reduces the tax burden. The WACC decreases as a firm increases its leverage (debt) because the cost of debt (r_D) is reduced due to the tax shield, and the cost of equity (r_E) increases at a slower rate due to the reduced impact of debt on financial risk.

Figure 3. Modigliani-Miller View Of Gearing And WACC: With Taxation (MM 1963)

Case Study: Implications of M&M 1963 (Optimal Capital Structure with corporate taxes)

Alpha Corp operates in a capital market (no bankruptcy costs, and no market imperfections). It has two financing options:

Option 1: Fully equity-financed (No debt with Corporate Taxes of 30%)

Option 2: 40% Debt, 60% Equity (without Corporate Taxes)

Option 3: 40% Debt, 60% Equity (with Corporate Taxes of 30% )

Each option funds a $100 million investment that generates an annual operating income of $10 million. The risk-free interest rate is 5%, and the required return on equity is 10%.

Figure 4. Modigliani-Miller View Of Gearing And WACC: With Taxation (MM 1963)

Table 2. M&M 1963: an Example

Key takeaways from this example are as follows :

1. Corporate Taxes Make Debt Financing More Attractive by Reducing the Effective Cost of Debt

In a no-tax world (M&M 1958, Option 2), firms are indifferent between debt and equity, as capital structure does not affect WACC.

However, M&M (1963) proves that in a taxed environment (Option 3), debt financing creates value because interest payments reduce taxable income, leading to lower corporate taxes.

This is called the “tax shield” effect, where firms pay less in taxes by using debt, increasing after-tax cash flows available to shareholders.

2. WACC Declines with Leverage When Corporate Taxes Exist, Unlike in M&M (1958)

In M&M (1958) (no taxes, Option 2), WACC remains constant at 10%, regardless of leverage.

M&M (1963) (Option 3) introduces taxes, causing WACC to drop to 8.80% due to the tax shield.

Strategic Takeaway: Firms can reduce their cost of capital and increase firm value by incorporating moderate levels of debt into their capital structure.

3. Cost of Equity Increases with Debt, But the Tax Shield Reduces the Rate of Increase

Higher leverage increases financial risk for shareholders, leading to a higher required return on equity (r_E).

In Option 2 (M&M 1958, No Taxes), introducing 40% debt raises the cost of equity to 13.33% due to added risk.

In Option 3 (M&M 1963, With Taxes), the cost of equity only increases to 12.33%, because the tax shield offsets part of the financial risk.

4. After-Tax Cost of Debt is Lower than the Cost of Equity, Making Debt a Cheaper Financing Option

The cost of debt before taxes is 5%.

Due to the corporate tax rate (30%), the effective cost of debt is reduced: r_D^after-tax= r_D ×(1−T_c)

Comparing Financing Costs in Option 3:
- Cost of Equity (r_E) = 12.33%
- After-Tax Cost of Debt (r_D) = 3.5%
Debt financing is significantly cheaper than equity financing after adjusting for the tax shield.

Firms should utilize debt strategically to lower overall financing costs.

5. The Trade-Off Between Tax Benefits and Financial Distress Risk Determines the Optimal Capital Structure

M&M (1963) suggests using more debt to reduce WACC, but in reality, excessive debt increases financial distress risks.

While debt reduces WACC through the tax shield, too much debt leads to higher bankruptcy risks, credit downgrades, and operational constraints.

Most firms balance debt and equity to optimize WACC, using debt to take advantage of tax savings without excessive financial risk.

Takeaways on Optimal Debt Structure and Bankruptcy Costs from M&M 1963 Theorem

The Modigliani-Miller (1963) proposition demonstrated that the presence of corporate taxes fundamentally changes the implications of capital structure on firm value. Unlike their earlier 1958 proposition, where capital structure was deemed irrelevant, the 1963 revision highlighted the benefits of debt financing due to the tax shield effect. Since interest expenses on debt are tax-deductible, firms can reduce their taxable income and, consequently, their tax obligations. This finding suggests that, in a world with corporate taxes and no other frictions, firms should finance themselves entirely with debt to maximize their value.

The M&M (1963) proposition remains a cornerstone in understanding capital structure decisions, demonstrating that debt financing enhances firm value through tax savings. However, in practice, firms must carefully balance leverage to avoid excessive financial distress. The optimal capital structure is not purely debt-driven but rather a carefully calibrated mix of debt and equity that maximizes firm value while maintaining financial stability.

Why Should I Be Interested in This Post?

This post explains a key concept in corporate finance—how debt financing affects firm value through corporate tax benefits and financial risks. If you’re a student, finance professional, or investor, understanding the Modigliani-Miller (1963) proposition will help you grasp why companies use debt. With clear explanations, real-world examples, and Excel-based analysis, this post provides practical insights into optimal capital structure decisions.

Useful resources

US Courts Data – Bankruptcy

S&P Global – Bankruptcy Stats

Statista – Bankruptcy data

About the author

The article was written in January 2025 by Snehasish CHINARA (ESSEC Business School, Grande Ecole Program – Master in Management, 2022-2025).

Understanding organizations’ role in bargaining tariffs

July 12, 2025 by Annie YEUNG

In this article, Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025) explains about understanding tariff bargaining that involves international organizations, governments, and industries..

The World Trade Organization (WTO)

The WTO was established in 1995 and is the most influential international organization in managing and negotiating for global trade. The WTO includes 164 member countries, and its main goal includes facilitating trade negations and monitor trade policies, especially tariffs. There has been statistics showing that average global tariffs has decreased since the establishment of WTO. For example, average bound tariffs for decreased by nearly 3 percent from 1995 to 2023.

The WTO is also plays an important role in bargaining tariffs. For example, the Doha Development Round, launched in 2001 under the WTO has focused on improving trading for developing nations. This negotiation, initiated by the WTO, has aimed to make global trade equitable. Its missions include reducing agricultural subsidies, lowering tariffs, which all have effect in order to help developing nations improve access to trading in the global market. There has been negotiations created amongst developed and undeveloped countries, with these negotiations focusing on farm subsidies and market access, as well as lowering industrial tariffs to allow developed nations to better participate in global trading activities . however it is important to note that despite ongoing talks, this round of negotiation has not been successful in delivering an agreement. This failure could have been attributed to the challenges in different trading activity interests amongst different countries. For example, there has been different perspectives in trading such as agricultural subsidies, and tariffs on services, resulting in unresolved conflicts despite negotiation.

WTO negotiations reflect deeper global power imbalances, which are manifested in trading activities and tariffs imposed. The more influential and wealthier nations often hold more bargaining power and power in the global trading market landscapes. For example, these influential countries, particularly those in the G20, often set agenda in the trade negotiations and possess more negotiating capacity. As a result these countries often dominate in negotiations, setting a dynamic that advocate for their trade interests during the process of bargaining of tariffs.

The African Group, the Association of Southeast Asian Nations (ASEAM) are organizations that have become more active, which these countries have formed organizations in order to bargain for equity in the global trading landscape. These organizations that are forming alliances in order to bargain for equitable trading systems that are recognizing asymmetries between economies to push for stabilization for less developed countries. While developed nations are pushing for lower tariffs across all sectors. However, the countries with large economies often contend that decreased tariffs will destabilize economies. As a result, the WTO plays a crucial role to address this imbalance. For example, the “Special Differential Treatment” proposed by the WTO framework promotes more support for developing countries in implementing trade agreements and reducing tariffs. This could reduce unfair trade advantages and reconcile global trade liberalization amongst developed and undeveloped countries..

Trade Negotiation Teams – Representatives

Trade negotiations are often led by high-ranking officials representing their nations. For example, the U.S. Trade Representative (USTR) is a team of experts that are specializing in multiple fields in industries, including agriculture, technology, labor, environment etc. For example, the negotiation team participating in the 2024 Trade Policy Agenda which the USTR emphasized on commitments for their countries interests, negotiating for high-standard commitments in sustainable trade practice to bolster supply chain resilience. The USTR also participates in the World Trade Organization to unify positions with other organizations such as the African Group and the ASEAN to implement trade agreements with other developing countries.

For example, the United States imposes an average agricultural tariff of 5.1%. India has an average agriculture tariff of 38% to protect domestic producers. The European Union imposes 11% in agricultural tariffs. These disparities often lead complex negotiations, especially with agriculture which is crucial for food security .Hence, negotiation objectives often focus on reciprocity. This means to maximize benefits, which trading partners much seek for equivalent concessions, and negotiate on agreements to match others. For example, if one agrees to lower tariffs, the trading partner shall agree to provide benefits on a similar traded product. This ensures mutual benefit in policy making and reaching political goals. However, reciprocity could sometimes be challenging when two countries are under asymmetrical power dynamics, such as negotiating between developed and developing countries, Furthermore, during negotiation, while trade liberation is a long-term mission in tariff negotiations, each country approaches tariff negotiation seeking to protect strategic sectors, preserve jobs, and ensuring their own country’s interests. In negotiating for tariff cuts, some countries may insist on tariffs in protection for their own domestic producers, or in goal to safeguard their own strategic sectors.

Examples of governments’ Tariffs – a case study

Trump – the U.S. – China Trade War during 2018 to 2020

The U.S. China trade war during the 2018-2020 led to higher prices for American consumers. China responded with retaliatory tariffs on U.S. goods, and global trade dynamics were disrupted. The trade wars between U.S. and China also casted an effect on the economies globally, as the two countries have such large economies.

As a result from the trade war, both the U.S. and China have experienced profound effects in multiple perspectives of their economies. The U.S> economy were affected in their GDP and employment. According to a report from Bloomberg Economics, the trade war in 2019 has costed the US economy at $316 billion. The trade wars has also resulted U.S. in stock market losses, with research from the federal reserve Bank of New York finding U.S. firms losing at least $1.7 trillion in market value as a result from the tariffs imposed on imports from China. China has also experienced economic challenges as a result from the trade wars, with export decline and experiencing economic pressures. China has experienced an export growth slow-down, indicating deepened economic challenges.

Furthermore, the trade wars has casted a great effect to the global economic markets. With the two countries being two of the world’s largest economies, their trade tensions has led to significant shifts in market dynamics and economic growth on a global scale. According to data from Banque de France, 10 percent increase in tariffs could reduce global GDP by 3%. This decline as a result from the trade wars and increased tariffs is a result of increased prices that leads to decreased productivity, higher financing costs and reduced investment demand. According to data from The World Economic Forum, it is documented that the trade war has resulted a decrease of global GDP growth to 2.8% in 2019.

Useful resources

A Quick Review of 250 Years of Economic Theory About Tariffs

Tariff Negotiations and Renegotiations under the GATT and the WTO — Procedures and Practices

A quantitative analysis of multi-party tariff negotiations

About the author

This article was written in June 2025 by Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025).

Understanding the Evolution of Tariffs

July 12, 2025 by Annie YEUNG

In this article, Annie YEUNG discusses the historical development of tariffs and the evolution of tariffs over economic landscapes overtime.

Brief explanation of history of global tariffs

In the 19th century, tariffs were the main source of government revenue in aim for protectionism. Tariffs were widely used to protect domestic industries that were in their beginning stages. Many countries such as the United States and Europe has imposed high tariffs in order to ensure the development of their industrializing economies. For example, the U.S. implemented tariffs, such as the Tariff of Abominations in 1828 to protect its manufacturing industry. During the post World War II era, the General Agreement on Tariffs and Trade was established in 1947. In response to the post war devastation, countries lowered their tariffs in order to promote economic growth. Reciprocal lower tariffs were also implemented amongst countries and trading partners. Starting in near the beginning of the 21st center, the launch of the World Trade Organization in 1995 marked a significant evolution in global trade, where governance of trade tariffs were established through the launch of the WTO. The WTO emphasized on the trading of goods and introduced a governance structure for development considerations, granting special support for developing and less developed countries. The WTO also introduced an institutional structure for the dispute settlement procedures on global trading. Today, tariff reductions have continued due to negotiations and regional trade agreements, which deepened the harmonization of the global markets, facilitating increased global trade volumes. However, during the last decade, there has been an introduction of resurgence of tariffs amongst increased instability in the current geopolitical grounds. Tariffs has served as a political tool. For example, the U.S.- China trade war has seen tariffs as an economic tool under rising geopolitical tensions where billions of dollars of goods subject to tariffs. As two of biggest economies globally, this trade war has disrupted global supply chains. This has posed challenges as other countries have also employed tariffs for protectionism goals.

The Protectionism Approach

The United States has been maintaining high tariffs to nurture for its developing domestic industries during the 19th centuries. The United States has seen an increase in the average tariff rate over a century of time. During the beginning of the 19th century, the U.S.Average Tariff Rate was 35%, whereas by 1913, the U.S. Average Tariff Rate has increased to 40%. This historical evolution could be attributed to the need for domestic protection; early industrialization period during the early 19th century required protection, whereas in the beginning of the 20th century, tariffs needed to support the growing industry. European countries such as Germany and France also utilized tariffs to protect industrial growth during this period of time. However, developing countries struggled developing tariffs as threir internal markets were still in developing stages. However, beginning from the early 1900s, there has been a further rise in nationalism. Some tariffs rates exceeded 60%, and as a result, global trade decreased by 66% between 1929 to 1934. This was also during the period of the Great Depression, in which these tariff hikes and set-back in economy was a result of reduced international trade.

Trade Liberalization

After the establishment of the General Agreement on Tariffs and Trade in 1947 to reduce tariffs, there have been successful negotiation amongst nations to cut average tariffs worldwide in order to reduce protectionism and open up markets to global trading activity. This is seen from the data presented from the World Bank World Development Indicators, which there has been a gradual deduction in average global tariff rate from 15% to 6% from from the year 1950 to 2000. Since the beginning of tariff reductions and the start of post-war rehabilitation and rebuilding of the economy in 1950, continued multilateral negotiations has resulted in a historic low of tariffs in the year 2000. As a result, trade volumes increased and there was a global economic growth.

Complex Socio-economical landscapes

Despite the decreasing of average global tariff rate, trade policies in the 21st century, especially in the recent years, has grown to become more complex. For example, there has been targeted tariffs and trade conflicts, leading. To increased uncertainty in global trading markets. For example, U.S. has increased its tariffs from the year 2017 to 2020, with the average U.S. Tariff Rate of 1.6% in 2017 plummeting to 3.1% in the year 2020. This could have been attributed to the increased policies on tariffs on steel, aluminum, and the trade wars with China, resulting to much higher tariff rates compared to the beginning of the 2000s. For example, targeted tariffs has become a strategic target tariff, a tool with political goals. For example, the steel and aluminum tariff was to protective domestic industries, which the Trump administrated imposed a 25% tariff on steel and 10% on aluminum in March 2018. These tariffs were to uphold national security to maintain the U.S. domestic metals industry. However, this tariff led to price increases and resulted in retaliation of tariff policies from its trading partners.

< p> Increased tariffs from one country often results in retaliatory tariffs from its trading partners. Not just China, but there were also other countries that have responded to U.S.’s tariff hikes, including Canada, the European Union, and India. As a result, the increase in tariff has resulted in increased uncertainty to the global trade environment, affecting stock markets, companies, local businesses etc. Hence, the tariff can cast direct effects to each producer and consumer domestically, as investors raise concern over costs, and supply chains are rendered volatile, slowing businesses.

A Case Study: The European Union’s tariff on Chinese Electric Vehicles

In the year 2024, the European Union imposed tariffs of 38.1% on Chinese imported electrical vehicles. This is an example of the shifting grounds of global trading market environments. Today, tariffs have increased globally, and this tariff is an example that has marked a shift in the European Union trade policy and has great implications for the global automotive industry as well as the international trading landscapes. For example, the EU has imposed different tariffs targeting on specific different companies. The SAIC Motor has an 38.1% tariff, whereas Geely experiences a 20% tariff, while BYD has a 17.4% tariff for all goods imported into the European Union from China. These tariffs were imposed by the EU due to the low prices that Chinese manufacturers deliver to the European market, which may potentially undermine local producers through competition. In response to the tariff, China has filed a complaint with the World Trade Organization to contend for EU’s actions, appealing that the EU may have constituted to protectionism under fair competition. The tariff casts a large impact on the European EV market, which European consumers are facing higher prices. Market share also shifts, as the tariffs has changed the competitive landscape; Chinese manufactured EVs are facing higher costs, which may benefit domestic European manufacturers. Hence, the EU’s recent tariffs on Chinese manufactured electric vehicles marks today’s international trade policies amongst the historical evolution of global trade and tariffs, and has sparked debate and challenges.

Evolution of tariffs

Source: ACEA.

Why should I be interested in this post?

Evolution of tariffs is crucial as it reveals how economic policies shape international trade dynamics, and this affects to domestic industries, producers, consumers, and also has a wider effect to the global market. Studying the changes of tariffs throughout time can allow us to gain insights into historical trends, and stay informed upon future policy decisions.

Useful resources

A history of free trade — and the deep irony of ‘liberation day’

The Evolution of Tariffs

History of U.S. tariffs and why it matters today

The Problem of the Tariff in American Economic History, 1787–1934

Financial Times Transcript: Tariffs past, present and future. With Doug Irwin

About the author

The article was written in June 2025 by Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025).

Understanding the Economics of Tariffs

July 12, 2025 by Annie YEUNG

In this article, Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025) explains about understanding how tariffs are crucial for consumers, suppliers, and policymakers.

Introduction: What are tariffs?

Tariffs is a tax that is placed on imported and exported goods, essentially, a duty on goods when they cross international borders. Tariffs are taxes that is imposed by a government, and they are often utilized by governments to protect domestic industries, raise government revenue, and influent foreign policy. Tariffs are always impacting global economies on a large scale, as the effect they bring are always to large bodies of consumers and suppliers internationally, especially if the tariffs are imposed by a country with large export or import volumes. Trade tariffs make a direct effect by making imported goods more expensive, and they can often shift increased consumptions towards domestically produced goods. Tariffs take effect by rendering international imported goods more expensive, which consumers would, due to effect of demand, increase their quantity demanded towards domestic goods. Hence, tariffs take effect in protecting domestically produced goods, and may achieve political goals. However, as prices are increased, consumers often need to pay a higher price, which this may lead to inefficiencies and deadweight loss; this may lead to trade disputes.

Evolution of tariffs

Source: Average of World Tariffs, Adapted from Mitchell (1992) and Coatsworth and Williamson (2002).

Different types of tariffs

Ad Valorem Tariffs

An Ad Valorem Tariff is a tariff that is added onto the price of the imported good as a percentage. For example, an ad valorem tariff may be a 10 percent tax that is added onto the price of each good imported. Hence, an ad valorem tariff means that the more expensive a good is, the more tariff is added on. This may mean that higher valued imported goods are rendered much more expensive and takes greater effect as a result from the tariff.

Specific tariffs

Specific tariffs are tariffs that charges a fixed fee on the quantity or physical unit of the imported good. Hence, special tariffs are imposed on goods that are regardless of their price, and it would be a fixed fee that is imposed per physical unit of the imported good. For example, a specific tariff could be a $1 imposed on per kilogram of wheat that is imported wheat into the country. The economic impact are easier to administer and do not adjust with the market price of the good.

Compound tariffs

A compound tariff is a combination of both ad valorem and specific tariffs. Compound tariffs may include both an ad valorem tariff and a specific tariff combined to be imposed on an imported good.

Sliding Scale tariffs

Sliding scale tariffs are a variable tariff rate that are adjusted based on global commodity prices, domestic supply levels, inflation volatility etc. The tariff is dependent on when world prices of the good increases or rises. When world prices decrease, the sliding scale tariff increases, and when world prices increase, the tariff decreases. Hence, this tariff takes an economic effect by helping to maintain a minimum domestic price of a good, and helping to balance price stabilization. Hence, sliding scale tariffs may help stabilize domestic goods’ prices, and smooths the supply and demand for domestic goods, protecting domestic producers and reducing market volatility in face of global economic changes.

Protective tariffs

Protective tariffs take effect by protecting domestic industries from foreign competition. The goal of imposing a protective tariff is to encourage consumers to purchase more from domestic by raising the price of internationally imported goods. As a result, when demand for domestic goods increase as a result from protective tariffs, more domestic jobs can be created, and growth of local industries are secured, which exemplifies the protection for these domestic sectors.

Revenue tariffs

Revenue tariffs are tariffs to raise government revenue instead of protecting domestic producers. The purpose of imposing revenue tariffs is to generate an income for the government, especially when the country’s economic system heavily depends on imported goods and has a high volume of imported goods. However, revenue tariffs may be a great burden for domestic consumers as they bear the higher prices of goods, and may affect trade flows and consumption choices within the population, as consumers are the major price payers under a revenue tariff.

Economic Effects of Tariffs

Tariffs can create multidimensional impacts on the global economy both in short term and long term, and consumers, producers, governments, as well as international relations may all be affected. Hence, tariffs are a very important factor in influencing the international landscape and may cast a great effect on global economic markets.

The effect of tariffs on consumers

Tariffs firstly directly impacts consumers. When a government imposes tariffs, suppliers importing a good internationally will need to pay an extra cost to the government. As a result, this will raise prices of goods, reducing the purchasing power of consumers. Furthermore, as pries increase for imported goods, consumers may find more limited choices in the market, and this may lead to consumer dissatisfaction.

The effect of tariffs on domestic producers

Tariffs are generally casting a more beneficial effect for domestic producers as they often result in increased output and employment to domestic industries. With more demand turned to domestic producers, they may result in higher sales and revenue outputs, boosting the economic return for domestic producers. While tariffs may provide protection to domestic industries as they gain a price advantage over foreign producers, there may be reduced competition. Furthermore, domestic producers may also be harmed through tariffs if they rely on foreign inputs. For example, when domestic producers rely on imported raw materials, their input cost increases, and this may result in less profit earned.

The effect on governments and the international landscapes

Trade tariffs may generate positive impacts to governments, as trade tariffs may act as a channel for revenue generation. Governments also utilize trade tariffs for political goals, and may cast a strategic effect on trade negotiations and affect the economic diplomacy. Simultaneously, trade tariffs may manipulate trade flows, and cause dissatisfaction, as rising consumer prices may lead to domestic unrest and trade wars. When one country imposes a tariff, this may often provoke retaliation from other countries, leading to a spiral of protective tariffs, that rises global prices and slows global economies. Hence, tariffs can lead to trade wars and lead to geopolitical instability.

Why should I be interested in this post?

This post discusses how trade policies may affect all actors in the economy. Understanding tariffs help you understand global events, and this can influence your everyday life as well.

Useful resources

CEPR Trump’s China tariffs: Lessons from first principles of classic trade policy welfare analysis

Knowledge.deck Trade and Tariff Impact Analysis

Wall Street Journal Tariffs Are More Than Just Taxes. They Are a Tool of Geopolitics.

About the author

The article was written in July 2025 by Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025).

My internship experience at Partner plus Investments Limited

July 12, 2025 by Annie YEUNG

In this article, Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025) shares her summer internship experience at Partner Plus Investments Limited as the Junior Analyst.

About the company

Partner Plus Investments Limited is an asset management company particularly focusing on fund of funds company. Partner plus investments limited operates by intersecting finance and technology and leverages sophisticated financial data analysis and modeling. The company is high-tech, and the team retrieves and develops insights from big data in order to make analytical insights and help our clients make informed investment decision. The company also aims to create and share reports to make investment decisions and specializes in sophisticated financial big data for extract valuable information. Partner Plus Investments limited meticulously curate portfolios and is driven by the exceptional commitment to deliver investment outcomes and value to the company’s clients. With an expertise and financial analysis and strong understanding of market dynamics, the company utilizes cutting edge, tools and technology to extract insights from vast amounts of financial data, which enables the company to make investment decisions and suggestions for clients with confidence and precision by staying on top of market trend and continuously monitoring the funds performance, Partner plus investments, limited strives to adapt their strategies, proactively to capture opportunities and make the best outcomes for clients in face of market dynamics. Therefore, partner plus investments limited focuses on transparency, integrity approaches, and builds long-term relationships with their clients based on trust and efficient communication, whilst always putting their clients first. Therefore, partner plus investment Limited serves its clients as being a trusted partner in achieving its clients’ financial goals.

Partnerplus Investments logo.

Source: Partnerplus Investments.

My internship

As the summer intern, I took on the role of being the junior analyst, contributing to the team with asset management and portfolio monitoring through daily analysis of financial data. At partner plus investments, I went beyond traditional data analysis through the creation of interactive reports that help empower and engage clients to understand macroeconomic environments and how it is related to our own investment decisions.

During the internship, one of my main tasks included conducting macroeconomic research. One of my important tasks included updating macroeconomic indicators on our data base. Based on the conducted research, we compiled and analyzed the data to create reports that not only showcase our findings but also provide a comprehensive summary and overview of our teams’s collaborative decision making and making sure that our investment strategies are reasoned and aligned with our client’s financial goals.

My missions

Hence, during the internship, I was able to combine technological knowledge with financial expertise and contribute to our team. I learned to use softwares and navigate through sophisticated financial data bases, including Bloomberg terminal, to compile data in order to drive insights and conduct interactive reporting. For example, we used graphic model for visualization of the fund performance for our clients.

Required skills and knowledge

In partner plus investments I learned about the skills and knowledge to retrieve vast amounts of financial data in order to analyze them and transform them into our known own knowledge that allow us to make well informed investment choices.

The first skill I learned was portfolio management skills which I understood about how we strategically allocate assets in order to optimize returns and effectively manage risks in our asset allocation. I also learned about performance analysis as I kept track of our companies investment and evaluated the performance of our portfolios by performing benchmark analysis to assess our investment outcomes. I also gained knowledge about fund of funds. During our fun selection I understood how we identified and selected funds in order to construct our diversified portfolios. I also learned about fund monitoring by making informed decisions, and keeping ourselves informed under changing market conditions, and trying to identify market patterns and apply them into our investment strategies. another skill that I learned was client reporting. as part of our daily job, it was important for us to communicate clearly to our clients. For example, we developed and wrote clear client reports in order to communicate effectively our investment strategies and performances to our clients. I learned about presenting complex financial information and to clear and concise formats for our clients. This included visualization of our data through software such as Excel and simplifying our data in order to make it clear to our clients.

What I learned

Another skill that I learned was how to perform financial modeling and utilize problem solving skills to solve and project financial situations. Financial modeling comes in large variety, and one may create models in order to address situations for different financial issues. I understood the importance of employing an analytical mindset.

I learned about problem solving and financial modeling during my internship at partner plus investments for example in one of my financial modeling tasks I learned to identify and manipulate different variables in order to address different investment outcomes as a result of our investment choices this was crucial in understanding and applying investment strategies in order to optimize our portfolio performance. I also learned about understanding the significance of periodic investments. during one of my tasks, I utilized periodic investments as a dependent variable and I saw how they impact overall portfolio growth and how they also allowed us to mitigate risks. I also gained technical proficiency as I was able to hone my skills in using excel and I applied my prior knowledge that I gained in previous academic settings to professional settings. I also honed my analytical thinking, as I was able to understand relationship more skillfully between target returns and investment timelines; I was able to apply this in analyzing for our fun performance metrics. I also learned about outcome evaluation; in our client reporting stages, I learned about analyzing data and scrutinizing the credibility of source of information before we included it in our reports.

Financial concepts related to my internship

I present below three financial concepts related to my internship: efficient market hypothesis, client Relationship management, and Sharpe ratio.

Efficient market hypothesis

The first important financial concept that I learned from my internship was the efficient market hypothesis. This hypothesis explains that share price reflects all available information. Hence, in an efficient market, it would be impossible for invewstors to purchase undervalued stocks or sell stocks for inflated prices; it would be Impossible to outperform market through expert stock selections. Indeed, there are studies that find only 23% active managers were able to outperform their passive peers. With a stock market with such large amount of actors, some investors would outperform the market, and some investors would underperform the market. However, it is important to note that in our current world’s markets, it may be hard to have a completely efficient market. This means that due to other outside factors, some investors may have more information than others, which this leads to an inefficient market. Hence, in inefficient markets, asset prices don’t accurately reflect true value due to info asymmetries, lack of buyers and sellers, and high transaction costs.

Client Relationship management

Another important financial concept that was important to my internship was Client Relationship management. As I refine my skills in evaluating for our investment outcomes through client reporting, I understood the importance of client relationship management. this involved managing our interactions with clients and potential clients which was essential for our company by effectively building relationships we were able to tailor our investment strategies to meet our clients’ needs and help our clients better reach their financial goals. during our client relationship management, it was also important that we we’re able to generate accurate performance assessments in order to report our performance to our clients and provide frequent performance updates and investment recommendations effectively. hence only through ensuring reliable credible and transparent reporting could we provide our clients with detailed insights about our portfolios and enhance our partnership with them.

Sharpe ratio

The third financial concept that was incredibly important to my internship was the Sharpe ratio. The Sharpe ratio is a measure of risk-adjusted return, and it defines as the excess return of an investment compared to the risk free rate per unit of risk. during the internship by calculating and interpreting sharpie ratios we were able to better assess the performance of our investment portfolios, and this could effectively allow us to evaluate the returns generated by our portfolio. a higher ratio indicates better risk-adjusted returns; hence we could use the Sharpe ratio to compare the risk-adjusted performance and better understand how much risk we are taking to achieve a certain level of return.

Why should I be interested in this post?

This post should interest you if you are also looking for gaining valuable professional experience in a fund related company, as it introduces and discusses what it is like to work in one! You will be able to learn many hands-on knowledge about portfolio management and conducting financial research.

About the author

The article was written in July 2025 by Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025).

My internship experience at FTI Consulting

July 12, 2025 by Annie YEUNG

In this article, Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025) shares her experience as an Intern at FTI Consulting.

About the firm

FTI consulting Is a business consultancy firm and global management advisory company. It is one of the leading global expert firms to help organizations that are facing crisis or transformation. fti consulting is a global company with a great presence in 33 countries and it has become a market leading global consulting firm that has experts to serve and help their clients as the trusted advisor for their clients to cope with challenges and leverage opportunitIes. FTI Consulting Has been recognized globally for their comprehensive services to assist their clients businesses and make a global impact under dynamic business cycles and unexpected crises. Therefore fti consulting is a prominent firm in the financial consultancy and services landscape and the company is largely recognized for its expertise and professionalism offering its clients financial services that are tailored to meet to meet their diverse nfti consulting . Fti consulting advises on risk management as well as it assists organizations on navigating through complex financial challenges and restructuring processes.

FTI Consulting Logo.

Source: FTI Consulting.

FTI consulting operates across various departments and each are specializing in distinct areas of professionalism and expertise to help solve diverse and comprehensive solutions for their clients.

Corporate finance and restructuring focuses on providing financial advisory services to companies who are undergoing financial distress, restructuring processes. Services may include success, debt restructuring, turnaround strategies, financial analysis, which FTI consulting may help optimize their clients’ financial performance.
Forensic and litigation consulting includes investigating and litigation support services which FTI consulting assist their clients in addressing legal challenges, regulate increase, and fraud investigations. FTI consulting acts as the expert to provide analysis and support legal proceedings for their clients.
Economic consulting, help their clients to conduct economic analysis, and provides analysis and insights into complex economic issues. FTI, consulting, economic, and financial consulting, helps their clients to understand more about economic and financial regulatory opportunities, and challenges in order to better support their companies, legal and business decisions.
Technology helps clients to manage and leverage technology and enhance their IT infrastructure as well as security protocols and their businesses.
Strategic communication helps clients to navigate through crisis and manage their reputation through effective communication with stakeholders. Strategic communication helps clients to reduce risk, and specializes in multiple areas, including corporate reputation, crisis communications, financial communications, public and government affairs, transaction communications, communications and insights.
Risk and compliance focuses on helping organizations navigate through regulatory requirements as well as compliance procedures.
Transaction advisory services provides support and advisory services to clients and mergers and acquisitions and other strategic transactions. FTI consulting provides valuation financial advisory services to support their clients in making their informed business decisions.
Health solutions specializes in providing healthcare organizations and management support and helps them address challenges and seize opportunities

My internship

During my internship at FTI consulting as the corporate finance and restructuring summer intern, I was able to gain valuable experience in immersing in a dynamic environment that provided me with invaluable, hands-on experience in financial analysis as well as restructuring procedures. One of the many important rules, I undertook during my internship included conducting detailed company research and delving into various legal papers. I conducted detail company re-and also organized for the adjudication of debts. in conducting from our financial analysis I enjoyed researching through numerous financial data from our clients, reviewing searching, checking sorting and grouping for these data. By organizing transaction data, I was able to learn more about a company and also practice my attention to detail.

Required skills and knowledge

Through my involvement in various tasks during my internship, I understood more about the important skills and knowledge required during my work. For example, I realized it was important important to develop a keen eye for detail and hold a meticulous approach when scrutinizing financial data. The ability to gather interpret understand and organized complex financial data was important. I also realize the importance of effective communication in the field of corporate finance and restructuring while working in FTI consulting. For example, whether if it is engaging in internal discussions with my team or communicating with clients, I realize the importance of delivering clear and concise communication in order to better convey our financial analysis and concepts. It was also crucial in building relationship with our clients as well as facilitating teamwork within our department in order to ensure the process was smooth. Furthermore, for more technical skills I learned how important it was to understand how companies manage their finances to optimize value. my exposure to transaction analysis and financial analysis as well as understanding the transparency and financial reporting processes allowed me to understand How to during restructuring assessments. It is important to evaluate a companies financial health and implement strategic planning to improve its overall financial position.

What I learned

The internship experience was extremely rewarding to me. I learned how restructuring process works, restructuring involves assessing a company’s financial situation and making changes to its structure or capital structure in order to improve on the companies financial health. Incorporate financial and restructuring I learned about the transactional, valuation and advising procedures of FTI consulting. Through taking the role on advising for our clients, I learned how to advise companies in managing their finances in order to maximize their company value and minimize their risks. Furthermore, the internship experience not only gave me exposure to financial procedures scrutiny, but also honed my skills of being attentive to detail, ability gather and interpret complex information, which is a vital skill in financial analysis. I was able to hone my analytical skills, make informative decisions based on multifaceted data.

Financial concepts related to my internship

I present below three financial concepts related to my internship: debt restructuring, financial analysis, and valuation techniques.

Debt restructuring

The first financial concept I gained insight into during my intern internship was debt restructuring. Debt restructuring means modifying the terms of existing debt agreements to alleviate companies financial or improve its financial position. Debt restructuring processes may include various steps such as refinancing debt, extending maturity dates, negotiating interest rates etc. I learned about how companies may effectively manage their debt obligations in order to optimize their financial structure, and ensure their financial position’s health.

Financial analysis

The second financial concept I learned during my intern intern internship was financial analysis. By looking at bank statements and financial reports, I realize how critical financial analysis is to corporate finance and restructuring. I developed a deep understanding of this concept and skills in evaluating financial statements, understanding the meaning behind each number on the financial report as well as understood more about performance metrics in order to assess the companies financial health and performance. By reviewing detailed ledgers and analyzing and identifying significant transactions, I was better able to interpret complex financial data as part of the process in helping our client make better informed business decisions.

Valuation techniques

The third financial concept I learned was valuation techniques, as it is utilized to determine a companies asset or investment value. Not only did I learn more about cash flows, market trends and cash flow, I was also able to hone my skills in learning about valuation models in order to determine the fair value of assets, which was an important procedure in the restructuring process .

About the author

The article was written in June 2025 by Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025).

My Audit Summer Internship experience at KPMG

July 12, 2025 by Annie YEUNG

In this article, Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025) shares her experience as an Audit Summer Intern in KPMG, as well as the details of what working in audit may be like, and the necessary skills and goals if one wishes to develop a career in Auditing.

About the firm – KPMG

KPMG, as recognized as one of the big four auditing companies alongside Deloitte, PwC, and EY, is one of the world’s leading professional services firms. The company provides professional financial services, and has a wide range of different departments, including audit, tax, and advisory services, facing diverse clients, including large corporations, governments, and even non-profit organizations. KPMG has a strong global presence. First founded in 1987, KPMG came to what it is today as a leading company through the merger of Klynveld Main Goerdeler and Peat Marwick International, and KPMG has excelled in the field of accounting, building trust from its clients.

Logo of KPMG.

Source: KPMG.

KPMG’s audit practice is one of its core components in the firm and plays a critical role in delivering accountable financial reports, in order to support the transparency of global financial systems. In auditing, the team aims to deliver independent, high-quality financial statement audits that allow stakeholders to understand the company through information that is reliable. KPMG focuses on building a strong ethical foundation, and today it leverages advanced data analytics and data intelligence to build a stronger audit practice. For example, the KPMG Clara is a smart audit platform to provide greater insights into the financials of their clients, and is a great tool designed to support the auditing process. In KPMG auditing, teams also ensure that companies meet financial reporting standards, such as the IFRS and US GAAP, and auditors work closely with their clients to gain a thorough understanding of their financials, industry, risks, and operations, to approach the assurance with tailored auditing processes. Furthermore, KPMG has also been proactive in addressing sustainability. The firm focuses on Environmental, Social, and Governance (ESG) reporting to extend their non-financial reporting, ensuring that companies’ sustainability claims are verifiable.

Overall, KPMG is a major player in the global professional accounting services market, and strongly commits to innovation, ethical practices, in order to deliver value to their clients. In the audit sector, auditors in KPMG play a crucial role in safeguarding the transparency of financial reporting and safeguarding public trust.

My Internship Experience

During my internship, I had the opportunity to work as part of the audit team as an Audit Summer Intern. I engaged closely with our client, contributing to the financial reporting during that audit cycle. This experience provided me a comprehensive understanding of how theoretical knowledge that I have gained from my academic studies could be translated into the practical applications in the world of auditing, My internship experience was both very challenging and rewarding at the same time; as the intern, II gained hands-on experience in handling audit tasks and financial statement reviews.

One of my major responsibilities during my internship involved conducting company and market research for our client as part of the audit procedure. For example, when working with our client, I conducted auditing procedures such as comparing company sales prices to market benchmarks. I was able to hone my skill in attention to detail, as I researched industry standards with similar features to our clients to ensure that the values reported by our client were reasonable and consistent with market standards. Through this procedure, I gained the ability to assess the credibility of pricing through benchmarking techniques in auditing, and I gained a more thorough understanding of inconsistencies in valuation, which allowed my seniors to further review. Another key aspect of my work included journal entry testing, where I was tasked with reviewing and vouching the selected entries back to the original supporting documents provided by our clients. This supported the auditing procedure by identifying potential risks of misstatements or irregularities in the financial statements. I also worked on financial statement reviews for numerous subsidiaries of our clients, which included larger corporations. I prepared working papers and learned to maintain audit trails for every assertion tested. Through this analytical review and control testing, I gained a great exposure to the structure of the performance of an external audit.

What I learned during my internship

Apart from the technical skills that I have strengthened during my internship, such as my proficiency in Microsoft Excel and on-the-field communication and collaboration, I was also able to gain a much wider learning experience through my experience in practicing auditing. Auditing is a detailed and structured process that ensures a company’s financial statements are accurate, transparent, and in compliance with industry standards. Hence, it is important to build trust in financial information so stakeholders can take the information and make informed decisions.

For example, I developed a strong sense of professional skepticism and prudence, especially when working on auditing procedures that involved vouching and checking for reasonableness. By examining the details, I understood the importance of attention to detail, and I improved my ability to think critically, as it was an important skill required in auditing in order to protect stakeholders and support the transparency in financial reporting.

Important key takeaways from working in KPMG auditing

Compliance with accounting standards and regulations

One of the primary goal of auditing is to check whether clients’ financial statements are in compliance with accounting standards and regulations. For each financial item and the financial statements, whether if it’s revenue, inventory, or assets, it is important to understand how these items are treated by the company. Hence, during auditing procedures, it could help us better determine if the item is fairly and accurately represented in the financial reports.

Developing professional skepticism

During the auditing process, I also learned the importance of adopting the mindset for professional skepticism, which we learn to question, verify, and ensure the integrity of financial data. Only by adopting this mindset can auditors detect potential misstatements, errors, or even fraud.

Identifying different types of risks

One of the key aspect in auditing involves identifying different types of risks. Business risk is related to the risk that a company might not be able to achieve its objectives; legal risk is about the company’s potential risk in facing legal consequences due to not being able to comply with laws and regulations; financial risks involve the possibility of market volatility etc. Auditing is particularly playing an essential role in helping companies to minimize and avoid legal risks. Only through the auditing processes verifying financial information of a company can we help maintain the integrity and sustainability of the firm.

IFRS vs GAAP in auditing

There are two auditing frameworks that provide guidelines on how financial statements shall be prepared. The two accounting frameworks, IFRS (International Financial Reporting Standards and GAAP (Generally Accepted Accounting Principles) are the two frameworks that is most widely used and known in the world of accounting.

The International Financial Reporting Standards

The IFRS is an international accounting standard that is developed by the International Accounting Standards Board. The IFRS is used by over 140 countries, and it emphasizes on transparency, accountability, and efficiency. The IFRS provides a global framework and guides how public companies should prepare their financial statements to ensure it delivers efficient financial information about the company to investors.

The Generally Accepted Accounting Principles

The GAAP is a standardized accounting guideline that is mainly used in the U.S. for financial reporting. The GAAP is different with the IFRS on some parts. The IFRS may often require more judgement-based decisions from auditors, and often requires a higher level of professional scepticism and judgement. On the other hand, the GAAP has more rigid guidelines, and thus requires less judgement during the auditing process.

About the author

This article was written in July 2025 by Annie YEUNG (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025).

Bitcoin : Défis et Opportunités

June 30, 2025June 30, 2025 by Jean-Marie CHOFFRAY

Dans cet article, Jean-Marie CHOFFRAY (Professeur Ordinaire Honoraire d’Informatique Décisionnelle à l’Université de Liège, PhD-77, Management Science, Massachusetts Institute of Technology) introduit son recent article “Bitcoin : Défis et Opportunités”.

Nier la réalité de bitcoin n’en change pas la nature… Cette courte note a pour objet de fournir au lecteur une première synthèse des principaux Défis et Opportunités engendrés par l’adoption et la diffusion de Bitcoin (avec « B » majuscule, le réseau informatique). C’est une Révolution Technologique dont les conséquences s’observeront dans les décennies à venir. En effet, le dernier bitcoin (avec « b » minuscule, le moyen d’échange) sera produit vers 2140 ! Suivent sept propositions de réflexion et d’action.

Les trois ANNEXES – Le Triomphe de la Vie dans la Victoire de Bitcoin ; Bitcoin est un rêve, un idéal, un espoir ; Mille quatre cent milliards de dollars – offrent au lecteur un complément d’information lui permettant d’approfondir sa compréhension du phénomène et son analyse de la situation actuelle. De nombreuses et excellentes sources d’informations sont disponibles et consultables sur internet, notamment : https://bitcoin.org/fr/ ; Bitcoin Statistics ; Strategy’s Bitcoin for Corporations.

Qu’est-ce que Bitcoin ?

La Technologie Bitcoin comporte deux éléments : (1) une Base de Données Séquentielle qui intègre aujourd’hui (~) 1,5 milliard de transactions irréversibles, incorruptibles et inviolables entre des agents réels et/ou virtuels – robots ? et (2) un Système d’Exploitation Décentralisé (Bitcoin Core) permettant de valider, de sécuriser et d’enregistrer de telles transactions. Un bitcoin est un moyen d’accès à cette base de données, permettant à son détenteur d’effectuer une transaction irréversible, incorruptible et inviolable ; reconnue comme telle par le réseau. Selon l’objet de la transaction, il s’agit donc d’un droit de propriété digital, d’un moyen d’échange et/ou d’une réserve de valeur ; monnaie et/ou capital digital ?

Ainsi, bitcoin est un objet digital qui peut être stocké, accumulé, transféré et/ou vendu. Le nombre de bitcoins émis diminue exponentiellement dans le temps et le dernier exemplaire sera produit vers 2140. Leur nombre est également limité dans l’espace ; le réseau n’en produira jamais que vingt et un millions. (cf. article original de Satoshi Nakamoto : Bitcoin, un système de paiement électronique). La capitalisation boursière actuelle du réseau (~ $2T : deux mille milliards de dollars) en fait le cinquième actif financier mondial. Soit, plus que la capitalisation cumulée des six plus grandes banques mondiales ; de l’ordre de trois fois le total de bilan de la Banque Centrale Européenne ; ou, encore, deux fois le PIB de la Suisse…

Défis et opportunités

On peut considérer aujourd’hui que la Technologie Bitcoin est quasiment indestructible. Sa probabilité d’effondrement total est estimée à moins de 1%. Pour deux raisons : (1) un éventuel dysfonctionnement du réseau n’affecterait que marginalement la base de transactions séquentielle actuelle (i.e. l’histoire exhaustive des transactions cryptées et encodées depuis 2009) et (2) la décentralisation géographique, technologique et financière du réseau garantit la robustesse – fiabilité et validité – de son mécanisme de gouvernance (e.g. Proof of work). Il va donc falloir apprendre à vivre avec bitcoin, qu’on le veuille ou non, qu’on le souhaite ou pas ! Ceci est d’autant plus vrai que plusieurs pays, dont les États-Unis d’Amérique, ont officialisé leur soutien à cette évolution digitale de l’écosystème bancaire et financier (cf. Strategic Bitcoin Reserve Bill).

Propositions de réflexion et d’action

Pour toute entité publique ou privée soucieuse de marquer sa présence dans ce nouvel espace économique, caractérisé par une forte croissance (~ 60%/an) et une volatilité comparable (~ 60%/cycle de 4 ans) :

Contribuer à créer un Centre Interuniversitaire d’intelligence, d’expertise et de compétence centré sur Bitcoin et les technologies annexes ou induites.
Organiser un Symposium Annuel, destiné à rassembler les acteurs du secteur, à diffuser les bonnes pratiques et à susciter l’innovation.
Constituer un Réseau d’Opérateurs (i.e. bitcoin Miners) assurant une présence effective à l’échelle mondiale et sécurisant l’accès aux transactions (cf. mise en place de Mining Pools).
Inviter les entreprises – et toute autre institution dotée de Fonds Propres – à adopter le Standard Bitcoin, en y consacrant (~3-5%) de leur Actif Net.
Destiner les Excédents Énergétiques – sources intermittentes, surplus nucléaire, cycles d’inférence (Intelligence Artificielle) etc. – à la production et au transfert de bitcoins ; au développement technologique – matériels et logiciels – sous-jacent ; et à la création de produits et services nouveaux.
Constitution d’une Réserve Stratégique – régionale et/ou nationale – de bitcoins tendant vers 3-5% de la richesse économique (cf. Senateur C. Lummis).
Émission de BitBonds : emprunts obligataires adossés (~10%) à bitcoin (cf. Andrew Hohns : BitBonds, An Idea Whose Time Has Come)

Lire la suite de l’article

Autres articles sur le blog

▶ Snehasish CHINARA Bitcoin: the mother of all cryptocurrencies

Ressources utiles

Choffray Jean-Marie (2025) Bitcoin : Défis et Opportunités Liège Université

Choffray Jean-Marie List des publications Liège Université

A propos de l’auteur

L’article a été rédigé en juin 2025 par Jean-Marie CHOFFRAY (Professeur Ordinaire Honoraire d’Informatique Décisionnelle à l’Université de Liège, PhD-77, Management Science, Massachusetts Institute of Technology).

Behavioral finance

June 30, 2025 by Mahé FERRET

In this article, Mahe FERRET (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2022-2026) explains the appeal and challenges of behavioral finance when investing.

Introduction

Behavioral finance is a psychological and economic finance field that allows us to understand how investors – individuals and institutions – make financial decisions. Unlike traditional finance, which assumes that investors are rational actors who always make the optimal decisions to maximize profits based on all available information, behavioral finance recognizes that decisions are often influenced by cognitive biases and emotional responses.

As the financial industry becomes more complex, understanding the psychological biases of investor behavior becomes essential. Behavioral finance includes a more realistic human-centered perspective for analyzing market reactions, making it a crucial area of study for academics, investors, and policymakers alike.

History and Theoretical Foundations

Behavioral finance challenges the classical economic model of the “Homo Economicus”, which states that an investor is a fully rational decision-maker. Instead, it builds on theories about cognitive biases, unconscious and systematic errors that occur when people make a decision.

It also challenges classical theories such as the Efficient Market Hypothesis and Expected Utility Theory. These models presume that markets are efficient (stock prices reflect all available information) and that investors act logically. However, evidence from historical events (financial asset bubbles and market crashes) suggests otherwise, with investors having irrational behavior leading to mispricing (an over or undervaluation of the market price) and high volatility, which could result in potential negative return investments.

Overconfidence is one of the most studied biases. This bias leads investors to overestimate their knowledge and ability to make decisions, often resulting in excessive trading and poor returns. On the other hand, confirmation bias influences investors to seek information that supports their preexisting beliefs, sometimes ignoring evidence. Continuing along this path, herding bias reflects the tendency to mimic the actions of the majority, ignoring personal beliefs or individual analysis. This can generate bubble behavior, such as buying simply because of a trend, even when it seems irrational. Finally, among the long list of other biases, the disposition effect can harm long-term returns. Most of the time, investors sell assets that have increased in value to secure gains but keep assets that have dropped in value to avoid facing a loss.

These biases are not just theory and can explain some behaviors as seen in market crisis, where collective overconfidence and optimism fueled risky lending and investment practices.

Case Study: The 2008 Financial Crisis and Cognitive Biases

The 2008 financial crisis is a significant example of how cognitive biases can influence market behavior. While traditional economists tried to explain the irrational behaviors behind the collapse of global markets, behavioral finance offered an explanation: cognitive biases.

The crisis was a result of years of rising home prices in the U.S. housing market, which created a false sense of security. Financial institutions, driven by overconfidence in their risk management and in the fact that housing prices would continue to rise, issued endless subprime mortgages to borrowers with low credit profiles. These loans were then turned into complex financial instruments like mortgage-backed securities (MBS) and collateralized debt obligations (CDOs), sold to investors worldwide.

According to Montgomery (2011), a collective psychological bias led to this irrational behavior. Overconfidence pushed investors and institutions to underestimate the high risk of the defaults and overtrade, while confirmation bias caused them to ignore warning signs and only select information that supported their vision of the future. The investors were also too optimistic about the market, thinking that it would be in their favor, leading to an underestimation of systemic risk (risk that affects the entire financial system).

Evolution of the S&P 500 index in 2008.
Evolution of the S&P 500 index in 2008
Source : invezz

This chart visually demonstrates the decline of the S&P 500 index during the market crash, illustrating how cognitive biases affect investor decisions. The index reached a high of 1576, marking the peak of the pre-crisis bull market. The market crashed by 57.7% from its peak and lasted for a total a year and a half. As the crisis progressed, panic selling spread rapidly, as a symbol of herd behavior, accelerating the decline and increasing the losses. Many investors also sold off assets at a loss to avoid more losses, despite fundamental research suggesting long-term recovery potential, which can be translated as a loss aversion bias.

These biases all contributed to the formation of a speculative bubble, which exploded when the housing prices began to fall and defaults rose, triggering a global credit freeze and economic recession.

Nudges, a strategy to mitigate biases ?

Behavioral finance offers an explanation for anomalies in market behavior but can also be used as a tool to improve decision-making. Strategies such as “nudges” (Thaler & Sunstein, 2008) could improve structured environments for decision making without restricting individual freedom. By changing the choice architecture, or “organizing the context in which people make decisions”, such as with default options or checklists, biases can be mitigated.

An example of a nudge strategy from “Nudge” (Thaler and Sunstein, 2008) is the use of automatic enrollment in retirement savings plan, such as 401(k)s in the U.S. Traditionally, employees had to opt in to participate in their company’s retirement savings plan. Many did not enroll because they procrastinated or found the process confusing. The nudge would be to change the default option so that employees are automatically enrolled in the retirement plan, but can opt out if they choose. Like in the finance industry, the choice architecture has changed concerning the default option, and this small change led to high increases in participation rates among employees. Changing the choice architecture in the decision-making process could be the solution to minimize cognitive biases and their negative impact on investments.

Why should I be interested in this post?

As a business student, understanding market anomalies—such as overreactions to news or momentum effects—is essential because they reveal limitations in classical finance theories that assume investors are always rational and markets efficient. Real markets often behave differently, with phenomena like speculative bubbles and panic selling challenging these traditional views. Studying behavioral finance offers valuable insights into the psychological factors and cognitive biases that influence investor decisions. This knowledge is crucial for future business professionals, as it helps improve decision-making, risk management, and strategy development in finance and beyond. Recognizing how human behavior impacts markets prepares business students to navigate real-world complexities more effectively.

Useful resources

CFA Institute (2025). Market Efficiency.

Montgomery, H. (2011). The Financial Crisis – Lessons for Europe from Psychology.

Kahneman, D., & Tversky, A. (1979). Prospect Theory: An Analysis of Decision under Risk.

Thaler, R.H. and Sunstein, C.R. (2008). Nudge: Improving Decisions about Health, Wealth, and Happiness. London: Penguin Books.

About the author

The article was written in June 2025 by Mahe FERRET (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2022-2026).

Selling Structured Products in France

June 30, 2025 by Mahé FERRET

In this article, Mahé FERRET (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2022-2026) explains the appeal and challenges of selling structured products in France.

Introduction

Structured products are investment products combining traditional assets (stocks, bonds, indexes…) with derivatives (options, futures…) to offer customized returns tailored to an investor’s risk profile.

In recent years, structured products have gained popularity due to persistent low interest rates and increased market volatility. For instance, buffered ETFs reached $43.4 billion in assets in 2024 according to N.S Huang (Kiplinger, 2024). In France, the market has grown significantly, reaching €42 billion in 2023, an 82% increase over two years, showing investors’ interest in higher returns with safety. Sales teams in investment banks actively seek to answer this demand by offering structured solutions to wealth managers, private banks and institutional investors, using payoff strategies and risk scenarios to support which product to choose.

Why Structured Products Appeal to French Investors

These products are particularly interesting for France’s investment culture, known for capital protection and an income preference due to low interest rates and relatively more risk-averse type of investors. The structured products appeal to French investors as they aim to protect the initial investments and offer higher returns than traditional bonds.

Capital protection means that an investor will not lose their initial investment, even if the market is dropping, and will earn a profit if the market performs well. As an example, BNP Paribas offers Capital Protection Notes (CPNs) tied to the S&P500 that guarantees the initial investment amount at maturity and 130% of the average performance of the index if it rises. If the index’s performance is zero or negative, the investor will only receive its capital back, with no additional return. In client meetings, sales professionals use scenario simulations and historical data to demonstrate the potential returns under different market conditions. Another type of structured product that could interest sustainable caring French investors could be an ESG (Environmental, Social, Governance) note tied to a renewable energy index. As an example, an ESG-linked structured product is tied to indices like the Euronext Eurozone ESG Large 80 Index, with a fixed or conditional coupon of 3 to 5% annually and a maturity of usually 5 to 8 years. With the increasing demand for these products, ESG investments are more and more promoted by Sales through a sustainable aspect, especially to family offices and pension funds committed to responsible investing. ESG products include ESG factors while still using traditional assets like stocks, allowing investors to search for both financial returns and positive societal impact. They often include stock from companies with already strong ESG processes, green bonds supporting environmental projects or derivatives linked to sustainability indicators.

Regulatory Environment in France

In France, the Autorité des marchés financiers (AMF) regulates the sales of structured products to ensure fairness and transparency. These products are complex, and regulations like PRIIPs (Packaged retail and insurance-based investment products) require a Key Information Document (KID) to explain them in simple terms. MiFID II (Markets in Financial Instruments Directive II) also mandates clear disclosure of risks and costs. ESG products, in particular, are under scrutiny to prevent greenwashing. It is an important aspect for the Sales team to consider, as they must respect regulatory requirements at every step with the clients, from pre-trade client conversations to post-sale documentation, and integrate it into their sales pitch.

Client Segments and Tailored Offerings

As complex as these products can be, one of their benefits is that they can be tailored to each investor’s profile risk (more or less tolerance to risk). The structured products can be ideal for retail investors needing safe products. A retail investor could be a retiree seeking a complementary source of revenue and would seek a PPN guaranteeing €10,000 principal with a 3% coupon if the CAC 40 stays flat or rises. The product can be chosen according to the risk level and could be a principal-protected note (PPN), for safer investments. However, less risk-averse investors could seek customized high-return options like a Rainbow note (a derivative-based product designed to offer potential returns based on the performance of a basket of assets, often with a focus on the best or worst performers within that basket) and institutions would need complex products for portfolio strategies like a buffered note. A rainbow note is a product linked to at least two assets and answers a diversification benefit, with a growth and stability balance. Sales teams must match the product structure to the investor’s objectives by collaborating with structuring desks (Department of the trading room that creates the structure that best fits the demands of the client) and traders to design personalized solutions. For a pension fund, a buffered note, designed to allow you to earn a return based on the performance of a stock but with a “buffer” to protect from some losses, offers risk management characteristics, with protection against the first 10% of losses on a global equity index.

Benefits

Structured financial products offer several advantages that make them attractive to a wide range of investors. From a sales perspective, they are attractive tools to meet a client’s needs with a lot of advantages. First, they often include capital protection, meaning that even if the underlying asset’s performance declines, the investor’s capital will be preserved at a predetermined protection level. Additionally, these products can provide regular income, but only to the extent that specific market conditions are met during the investment period. Structured products also allow investors to bet on market volatility, meaning that the products’ prices tend to fall when volatility rises. This creates an opportunity to buy low during periods of high volatility and sell when the volatility declines. Furthermore, these instruments both answer the client’s investment preferences and the diversification potential by offering many investment options across different asset classes. Sales professionals often highlight how these products provide a unique combination of stability and performance that standard products cannot offer.

Challenges

Structured products, despite their benefits, also present common obstacles for investors and for the sales team. Sales must be able to clearly explain these risks using simplified language to make it understandable to even non-expert clients. First, there is the issuer’s risk. Since these tools are issued by banks or other intermediaries, there is a risk that the issuer becomes insolvent or unable to meet its obligations, and the investor may not receive their returns at maturity. There is also an underlying risk, as the value of a structured product depends directly on the performance of the underlying asset, which is subject to high volatility. In extreme cases, the product’s value could go to zero if the asset performs poorly. A second aspect is sometimes the lack of liquidity that can be common for such unique products. Although some products are listed and supported by market makers there is no guarantee of continuous availability in the market. Investors may have difficulties buying or selling the product before maturity, which could lead to unexpected losses due to the absence of market participants at the time of the transaction. Finally, the product can be seen as complex because they are multi-layered, combining different asset types (indices, funds) with different payoff conditions and risk levels.

Complexity of a basket of equity indices.

Source: AMF.

On this graph, each added asset increases the product’s complexity, making it harder to assess risk, performance and transparency. An investor needs then to evaluate each asset but also their own impact within a basket.

Why should I be interested in this post?

As an ESSEC student interested in business and finance, I found that learning about structured products really helped me understand how financial institutions create investment solutions based on different risk profiles. They’re a great example of how finance can combine both protection and performance. For anyone considering a career in sales, asset management, or investment banking, getting familiar with these products is a great way to build practical knowledge and better understand how finance works in the real world.

Useful resources

AMF & ACPR Analysis of the French structured product market

Kiplinger Buffered ETFs: What are they and should you invest in one?

Itransact BNP PARIBAS S&P 500 100% CAPITAL PROTECTED NOTE 5

Yassien Yousfi ESG structured products: challenges and opportunities

Klara Gjorga Equity Derivatives and Structured Products Sales

Line Grinden Quinn – Structured Products: Sound strategy or sales pitch?

About the author

The article was written in June 2025 by Mahe FERRET (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2022-2026).

My internship at NAOS – Internal Audit and Control

June 30, 2025 by Mahé FERRET

In this article, Mahe FERRET (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2022-2026) shares her professional experience as an internal audit intern at NAOS.

About the company

The NAOS group was founded in 1980 by Jean-Noël Thorel and is a French skincare company headquartered in Aix-en-Provence. The vision of the founder was to create science-based skincare products prioritizing skin health and ecobiology.

The group is divided into three brands; Bioderma, l’Institut Esthederm and Etat Pur, which all participate in developing and marketing skincare products created and manufactured in France, ensuring high-quality standards backed by scientific research.

With its three brands, NAOS operates in over 100 countries, making it a major player in the cosmetics industry.

NAOS’s particularity is that, unlike traditional skincare companies, it focuses on ecobiology, a unique philosophy that views the skin as a living system that interacts with its environment. In other words, the products’ creation will be designed to enhance the skin’s natural ability to adapt, rather than correct it. The group also emphasizes the importance of research and innovation, with a strong community of scientists, dermatologists and researchers to drive its ecobiological objective.

Logo of NAOS.

Source:NAOS

My internship

My 3-month internship after my first year at ESSEC was within the internal Audit department of NAOS, whose mission is to ensure financial and operational compliance across global operations – NAOS’s three brands and international subsidiaries. My first professional experience was particularly interesting in learning how a company operates from the inside and improving risk management.

My missions

During my internship, I was involved in risk management for the Latin America subsidiaries. Through meetings with local teams, I reviewed internal control frameworks to ensure they were up to date and aligned with NAOS’s internal regulations. I contributed to the continuous improvement of internal control systems by identifying gaps in some processes – such as outdated procedures or missing key information – and proposed some recommendations to address them. In that way, I assessed the adequacy and effectiveness of processes related to the accounting and supply chain departments. My part in the analysis helped highlight inconsistencies in the internal control processes and ensured that the LATAM subsidiaries were aligning more closely to compliance standards.

Required skills and knowledge

The different tasks relied on the combination of technical and interpersonal skills in order to understand how a subsidiary operates and avoids risks. I would need analytical skills to analyze data (operational such as inventory, risk reports – incidents, compliance to security regulations…). and evaluate risk in order to identify potential operational and financial risks. Interpersonal skills were also required because the audit department relied on each department’s (Accounting, Research & Development, Supply…) collaboration to explain effectively how they work and verify they were aligned with compliance. It required strong communication skills to assess how departments and subsidiaries worked.

One thing that was difficult for me at the beginning was having to immediately evaluate processes within the firm without knowing how the company was functioning. It took me a few days (even weeks!) to understand the structure of the firm, the internal control framework and audit processes, necessary to ensure compliance and effective risk management.

What I learned

My internship deepened my understanding of how a company functions from the inside and how the internal audit department’s dedication and precision are essential for a company to ensure compliance with regulations. I gained practical knowledge in identifying risks, implementing controls and understanding financial processes (especially supplier accounting) to mitigate risks, especially in the departments I worked on – Accounting and Supply. It was also the first time I worked in a multinational environment where I had to adapt to diverse regulations and cultural contexts, and I enjoyed working with people from different countries.

Financial concepts related to my internship

I present below three financial concepts related to my internship: Risk Mapping, Compliance and Fraud Detection.

Risk Mapping

During my internship, I had to be consistent with risk assessment through risk mapping. It is a systematic process that guided me and my department to identify, assess and prioritize risk controls within the organization. In short, it was a useful tool to visualize risks in terms of likelihood and impact.

Risk Map – Audit.

Source: the company.

The Risk Heat Map helps provide an overview of an organization’s total risk environment at different levels. It is very important for pre-detection risk management, enabling our department to anticipate and mitigate potential risks before it is too late. It supports strategic planning by categorizing risk likelihood (from improbable to Frequent) and by impact (from Negligible to Catastrophic), ensuring compliance with security and regulations, as well as maintaining financial stability and avoiding vulnerabilities across NAOS subsidiaries.

One of my missions was to research risk factors from an additional department of NAOS in the first step before creating the risk map, by first learning how the department worked and how, from their perspective, there were risks that could be avoided before leading to negative consequences.

Compliance

Compliance is crucial for an audit department within an organization like NAOS. It refers to a firm’s adherence to financial regulations, laws and internal policies that govern its operations. This includes national laws, French and foreign laws for NAOS’ subsidiaries, anti-money laundering (AML) but also international regulations to ensure proper conduct and financial reporting integrity.

Compliance is important for maintaining legal and regulatory integrity, protecting NAOS from penalties and protecting its reputation. For multinational firms like NAOS, operating in a diverse regulatory environment means having a deep knowledge of every regulation to avoid fines and support smooth business operations.

During my internship, I participated in compliance monitoring, by learning how a new regulation (Loi Sapin III), that was going to be implemented as of 2025 for all French companies, could impact NAOS’ operations, mainly in France. The law focuses on preventing corruption in companies and public institutions, aligning with international anti-corruption standards. Our role was to estimate which processes to change or implement to meet the law’s requirements.

Fraud Detection

One of the other key goals of internal audit is to improve fraud detection and prevention, in compliance with regulations but also with NAOS’s own internal principles. Through internal controls and processes to identify intentional misrepresentations or misappropriations of assets and implement preventive measures to avoid anomalies.

Without processes to prevent it, fraud can lead to significant losses and financial manipulation. Relating to my internship missions, I assisted the audit department to detect and avoid inconsistencies. I also supported the implementation of standardized controls across subsidiaries such as segregation of duties, meaning breaking down a process so that different persons are responsible at different steps to prevent fraudulent activities.

Why should I be interested in this post?

This internship report is really interesting for any student curious about how companies stay on top of their finances and risks behind the scenes. It gives a real look into the day-to-day work of an internal audit team at a global skincare company, NAOS, showing how they check that everything runs legally across different countries. If you want to understand risk management, compliance, and fraud prevention—key areas in finance and business—this report offers practical insights and examples that bring those concepts to life.

Useful resources

Leif Christensen, Internal audit: A case study of impact and quality of an internal control audit (2022)

Waleed Hilal, S. Andrew Gadsden and John Yawney, Financial Fraud: A Review of Anomaly Detection Techniques and Recent Advances (2022)

Risk heat map

About the author

The article was written in June 2025 by Mahe FERRET (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2022-2026).

How blockchain challenges traditional financial systems: Lessons from my ESSEC thesis

July 1, 2025May 29, 2025 by Alexandre GANNE

In this article, Alexandre GANNE (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2025) shares key insights from his bachelor thesis on blockchain technology and its implications for traditional banking systems.

Introduction

This post is the result of a year-long academic research project conducted as part of my final thesis at ESSEC Business School. It explores how the growing adoption of blockchain technology is redefining core principles of traditional financial systems and the strategic implications this transformation holds for banking institutions.

The disruptive nature of blockchain

Blockchain is often described as the cornerstone of the next technological revolution in finance. It allows for the decentralization of data storage and value exchange, eliminating the need for central authorities to validate transactions. With distributed consensus mechanisms and cryptographic security, blockchain systems can operate autonomously and transparently. These features make it not just a new tool, but a foundational shift that could reshape core banking functions such as recordkeeping, interbank transfers, and credit issuance. Its key characteristics, immutability, programmability, disintermediation, and transparency, pose significant challenges to the centralized model of traditional finance.

From intermediation to decentralization

One of blockchain’s most radical promises is disintermediation. Traditional financial systems are heavily reliant on intermediaries such as banks, brokers, and clearinghouses to establish trust and validate transactions. Blockchain introduces the ability to execute trustless peer-to-peer exchanges using cryptographic proofs and decentralized ledgers. For example, platforms like Ethereum enable the deployment of smart contracts, self-executing programs that automatically enforce the terms of a contract without human intervention, drastically reducing friction and cost.

Security and auditability

Unlike traditional databases that are vulnerable to manipulation or single points of failure, blockchain offers a tamper-proof and chronologically auditable data structure. This makes it a valuable tool for regulatory compliance and fraud prevention.

Implications for the banking sector

Custody and settlement

Traditional banks act as intermediaries for the settlement of securities and custody of assets. Blockchain-based tokenization could eliminate the need for such intermediaries by allowing real-time settlement and direct ownership recording on-chain.

Compliance

Know Your Customer (KYC) and Anti-Money Laundering (AML) procedures are critical, yet often duplicative and costly for financial institutions. Blockchain can streamline these processes by allowing users to maintain a single, verified digital identity that can be securely shared across multiple entities. Through permissioned blockchain networks, institutions can access and update identity records in real time, increasing efficiency while maintaining regulatory compliance. Additionally, immutable audit trails enhance traceability and accountability.

New business models

The rise of decentralized finance (DeFi) introduces new paradigms in financial services, automated lending, yield farming, insurance, and derivatives, all operating without traditional intermediaries. In response, incumbent banks are exploring strategic partnerships, investments in blockchain startups, and internal initiatives to tokenize assets or build proprietary custodial solutions. Hybrid models, blending regulated infrastructure with decentralized services, are likely to emerge as a dominant trend over the next decade.

Why should I be interested in this post?

For any ESSEC student or finance professional interested in the frontier of financial innovation, this article distills the key findings of a year-long academic thesis dedicated to understanding how blockchain is transforming our industry. It bridges theory and practice, highlighting both opportunities and risks. As regulators, institutions, and entrepreneurs continue to shape the future of financial systems, understanding blockchain is no longer optional, it is essential to navigate and lead in tomorrow’s economy.

Useful resources

BIS – The implications of decentralised finance

ECB Blockchain

FSB The Financial Stability Risks of Decentralised Finance

About the author

The article was written in May 2025 by Alexandre GANNE (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2025).

My internship as Finance Assistant Manager at Kpler

May 29, 2025 by Alexandre GANNE

In this article, Alexandre GANNE (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2025) shares his professional experience as Finance Assistant Manager at Kpler.

About the company

Kpler is a fast-growing technology and data intelligence company offering transparency solutions in commodity markets. Its platforms collect and analyze data from hundreds of sources: including radar, satellites, shipping databases, and government publications, to provide real-time insights into global supply and demand dynamics. Kpler’s clients include energy giants, trading houses, public utilities, and financial institutions such as hedge funds and banks.

Logo of Kpler.

Source: the company.

Headquartered in Paris, Kpler has a strong international presence with offices in London, Singapore, Dubai, Houston, and New York. Its diverse team and innovative culture have made it one of the key disruptors in the financial and energy data sectors.

My internship

My missions

During my internship, I worked within the Finance Department as a Finance Assistant Manager, contributing to Kpler’s accounts receivable processes. As my first business school internship, which I completed at just 19 years old over a period of three months, this role gave me early exposure to the financial operations of a rapidly scaling tech firm. My responsibilities included issuing and monitoring invoices across multiple international entities (France, UK, UAE, US, Singapore), tracking and securing timely customer payments, and managing unresolved payment situations in coordination with sales and operations teams. I was also in charge of analyzing client payment performance metrics (e.g. Days Sales Outstanding), supporting forecasting tasks, and escalating at-risk accounts to senior management.

Required skills and knowledge

The internship required strong organizational and analytical skills, with an understanding of accounting principles and international tax practices. Proficiency in Microsoft Excel and familiarity with ERP or invoicing software were essential for data manipulation and reporting. Additionally, this position demanded a high level of professional communication, especially in client interactions regarding payment reminders, dispute resolution, and follow-ups, often involving senior finance stakeholders.

What I learned

This experience gave me a detailed view of how financial flows are managed in a fast-paced, multinational tech company. I enhanced my technical skills in accounts receivable management, financial forecasting, and reporting. The daily collaboration with sales and legal teams further reinforced my ability to work across departments and navigate complex operational settings in English and French. I also learned to use software tools such as NetSuite and Salesforce.com. Beyond technical knowledge, I discovered what it means to work in a 21st-century startup environment, which contrasts significantly with traditional corporate structures. I learned to manage my own working hours, adapt to flexible geographies, including remote work setups, although I preferred being on-site in the Paris office to engage directly with the talented Kpler teams. Finally, I developed the ability to communicate effectively with people from diverse professional backgrounds, including engineers, developers, and sales specialists.

Financial concepts related to my internship

I present below three financial concepts related to my internship: Days Sales Outstanding (DSO), Cash Flow Forecasting, and Credit Risk Assessment.

Days Sales Outstanding (DSO)

DSO measures the average number of days it takes for a company to collect payment after a sale. At Kpler, I regularly tracked this KPI across entities to identify underperforming accounts. A high DSO can indicate liquidity issues and may require proactive engagement strategies. My tasks involved identifying trends in DSO, generating dashboards to report them, and communicating with internal teams to initiate corrective actions with clients.

Cash Flow Forecasting

Cash flow forecasting involves projecting future cash inflows and outflows to ensure the company can meet its financial obligations. As part of the finance team, I supported the preparation of weekly and monthly forecasts based on outstanding invoices, historical payment behavior, and contractual terms. Accurate forecasting is crucial for maintaining solvency and planning investments in high-growth companies like Kpler.

Credit Risk Assessment

Credit risk assessment evaluates the likelihood that a customer will default on their payment obligations. At Kpler, I participated in risk reviews using payment histories and financial data to inform internal decisions regarding client credit terms. For high-risk clients, I contributed to drafting escalation reports and supported the implementation of preemptive actions such as revised payment terms or partial upfront invoicing.

Why should I be interested in this post?

This post is particularly relevant for students interested in finance within innovative environments. It provides exposure to international operations, cross-functional collaboration, and practical financial risk management. Working at Kpler allows you to evolve in a data-driven culture that sits at the intersection of finance, technology, and energy markets. It is also a unique opportunity to contribute meaningfully to strategic processes in a fast-scaling tech firm.

Useful resources

Kpler – Official Website

About the author

The article was written in May 2025 by Alexandre GANNE (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2025).

My apprenticeship as Depositary Control Auditor at CACEIS Bank

May 29, 2025 by Alexandre GANNE

In this article, Alexandre GANNE (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2025) shares his professional experience as Depositary Control Auditor at CACEIS Bank.

About the company

CACEIS Bank is a leading European financial institution specializing in asset servicing. A subsidiary of Crédit Agricole and Santander, CACEIS provides custody, depositary, and fund administration services to institutional clients, management companies, and large corporates. The group supervises more than €2.3 trillion in assets under custody and over €3 trillion in assets under administration.

Logo of CACEIS Bank

Source: the company.

The Depositary Control team plays a critical role in investor protection, ensuring that asset managers operate in compliance with applicable regulations. It verifies the correct valuation of assets, control of financial ratios, and the conformity of transactions made on behalf of the funds.

My internship

My missions

As a Depositary Control Auditor, my primary responsibility was to conduct thematic audits on European investment management companies with assets exceeding €5 billion. I focused on key control areas such as asset valuation, regulatory ratios, and Value at Risk (VaR). I also carried out analytical reports on current macroeconomic trends to assess their potential impact on asset management practices. Additionally, I worked on recurring and ad hoc studies, such as evaluating the impact of the ongoing real estate crisis on real estate investment funds (REITs, OPCIs, SCPI), analyzing their asset exposure, liquidity constraints, and valuation resilience.

Required skills and knowledge

This role required a solid understanding of financial regulations and investment vehicles, as well as proficiency in the Microsoft Office suite, especially Excel for financial modeling and reporting. Soft skills such as rigor, autonomy, and teamwork were crucial to ensure the reliability of our audit reports and smooth communication with asset managers. A high level of professionalism in client communication was essential, particularly when addressing sensitive compliance issues with senior representatives of management companies.

What I learned

This apprenticeship allowed me to develop a comprehensive understanding of the regulatory ecosystem of European asset management. I acquired expertise in risk control, asset valuation methodologies, and fund auditing practices. I also improved my organizational skills, learning to manage several audit missions simultaneously while respecting strict deadlines and reporting requirements.

Financial concepts related to my internship

I present below three financial concepts related to my internship: asset valuation, Value at Risk (VaR), and key regulatory ratios.

Asset Valuation

Asset valuation is the process of determining the fair market value of assets held in an investment portfolio. This is a critical step in calculating the Net Asset Value (NAV) of a fund. In practice, I reviewed how management companies priced listed assets (using mark-to-market techniques) and unlisted assets (using models like discounted cash flows or multiples comparison). I ensured that valuation methods adhered to regulatory guidelines and were consistently applied, especially for complex or illiquid assets.

Value at Risk (VaR)

Value at Risk (VaR) quantifies the potential maximum loss of a portfolio under normal market conditions over a specific time period and confidence level (e.g., 99% over 10 days). I assessed the robustness of VaR models used by asset managers, ensuring they incorporated appropriate volatility measures, stress scenarios, and backtesting. VaR helped us monitor whether funds stayed within authorized market risk limits and provided a quantitative basis for risk-based oversight.

Regulatory Ratios

Regulatory ratios include leverage, liquidity, and concentration limits imposed by the AIFM and UCITS directives. During audits, I verified that asset managers respected these ratios daily and that breaches were properly justified and resolved. This involved reviewing internal control mechanisms and examining historical data to detect anomalies or patterns of non-compliance, thereby reinforcing the protection of investor interests.

Why should I be interested in this post?

This internship is particularly valuable for students interested in financial regulation, risk oversight, or asset management. Beyond that, it is a gateway to multiple career paths in finance. I am honored to be the fifth ESSEC student to hold this position at CACEIS Bank. Many of my predecessors went on to successful careers in investment banking, private equity, or consulting, demonstrating that this experience builds a strong foundation even beyond the field of risk management. Being part of this legacy pushes me to give my best and uphold the high standards set by those who came before me.

Useful resources

CACEIS – Home Page

EFAMA – European Fund and Asset Management Association

Autorité des Marchés Financiers (AMF)

About the author

The article was written in May 2025 by Alexandre GANNE (ESSEC Business School, Global Bachelor in Business Administration (GBBA) –2025).

Pricing Weather Risk: How to Value Agricultural Derivatives with Climate-Based Volatility Inputs

May 29, 2025 by Mathias DUMONT

In this article, Mathias DUMONT (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2022-2026) explains how weather risk impacts the pricing of agricultural derivatives like futures and options, and how climate-based data can be integrated into stochastic pricing models. Combining academic insights and practical examples, including a mini-case from the SimTrade Blé de France simulation, the article illustrates adjustments to models such as the Black-Scholes-Merton model for temperature and rainfall variables in valuing agricultural contracts.

Introduction

Extreme weather has always been a critical factor in agriculture, but climate change is amplifying the frequency and severity of these events. From prolonged droughts to unseasonal floods, weather shocks can send crop yields and commodity prices on wild rides. This rising uncertainty has given birth to weather derivatives – financial instruments designed to hedge weather-related risks – and has made volatility forecasting a key challenge in pricing agricultural contracts. In fact, as businesses grapple with climate volatility, trading volume in weather derivatives has surged. CME Group saw a 260% increase last year (CME Group, 2023). The question for traders and risk managers is: how do we quantitatively factor weather risk into the pricing of futures and options on crops like wheat and corn?

Weather Risk and Agricultural Markets

Weather directly affects crop supply. A bumper harvest following ideal weather can flood the market and depress prices, whereas a drought or frost can decimate yields and trigger price spikes. These supply swings translate into volatility for agricultural commodity markets. For example, during the U.S. drought of 2012, corn prices skyrocketed, and the implied volatility of corn futures jumped by over 14 percentage points within a month, reaching ~49% in mid-July. Such surges reflect the market rapidly repricing risk as participants absorb new climate information (in this case, worsening crop prospects). Seasonal patterns are also evident: harvest seasons tend to coincide with higher price volatility because that’s when weather uncertainty is at its peak. Studies show that harvesting cycles create predictable seasonal volatility patterns in crop markets – when a critical growth period is underway, any shift in rainfall or temperature forecasts can send prices swinging.

Beyond affecting supply quantity, weather can influence crop quality (e.g., excessive rain can spoil grain quality) and even logistic costs (flooded transport routes, etc.), further feeding into prices. The interconnected global nature of agriculture means a drought in one region can reverberate worldwide. As noted in the SimTrade Blé de France case, weather conditions in France influence the quantity and quality of wheat the company harvests, while weather conditions around the world influence the international wheat price. In the Blé de France simulation (which models a French wheat producer’s stock), participants see how news of floods or droughts translate into stock price moves. For instance, the company might project a 7-million-ton wheat harvest, but analysts’ forecasts range from 6.5 to 7.2 Mt – with the realized level highly weather-dependent in the final weeks of the season. A poor weather turn not only shrinks the crop but boosts global wheat prices, creating a complex revenue impact on the firm. This mini-case underlines that weather risk entails both volume uncertainty and price uncertainty, a double-whammy for agricultural firms and their investors.

Case Study: Weather Shocks in Wheat Markets

To illustrate the impact of weather risk on commodity pricing, consider three simulated scenarios for an upcoming wheat growing season: (1) **Favorable weather**, (2) **Moderate conditions**, and (3) **Severe weather** such as drought. Each scenario generates a distinct price trajectory in the wheat market. Under favorable weather, prices tend to remain stable or decline slightly, particularly at harvest, due to strong yields and potential oversupply. In moderate conditions, prices may rise modestly as the market adjusts to balanced supply and demand. In contrast, severe weather triggers early price rallies as concerns about yield shortfalls emerge, followed by sharp spikes once crop damage becomes evident. For producers and traders, anticipating these divergent price paths is essential for pricing contracts, managing risk exposure, and structuring hedging strategies effectively.

Figure 1. Simulated commodity price paths under three weather scenarios.
Simulated Price Paths
Source: Author’s simulation.

Figure 1. shows the simulation of commodity price paths under three weather scenarios: severe weather (red), moderate weather (orange), and favorable weather (green). A mid-season weather forecast alert (Day 15) triggers a shift in market expectations, causing price divergence. This simulation illustrates how weather shocks and forecasts impact commodity pricing through volatility and revised yield expectations.

From a risk management perspective, tools exist to handle these contingencies. Farmers or firms concerned about catastrophic weather can turn to weather derivatives for protection. Weather derivatives are financial contracts (often based on indexes like temperature or rainfall levels) that pay out based on specific weather outcomes, allowing businesses to offset losses caused by adverse conditions. They have been used by a wide range of players – from utilities hedging warm winters, to breweries hedging late frosts. These instruments can be customized over-the-counter or traded on exchanges. Notably, CME Group lists standardized weather futures and options tied to indices such as heating degree days (HDD) and cooling degree days (CDD) for various cities. The existence of such contracts means that even when commodity producers cannot fully insure their crop yield, they might hedge certain aspects of weather risk (like an unusually hot summer) via financial markets. In our context, a wheat farmer worried about drought could, say, buy a weather option that pays off if rainfall falls below a threshold, providing funds when their crop output (and thus futures position) suffers.

Climate-Based Volatility in Derivatives Pricing

How can weather uncertainty be incorporated into derivative pricing models? Classic option pricing, such as the Black-Scholes-Merton model, assumes a fixed volatility for the underlying asset’s returns. For agricultural commodities, that volatility is anything but constant – it ebbs and flows with the weather and seasonal progress. Practitioners thus often use stochastic volatility models or at least adjust the volatility input over time. For example, one might use higher volatility estimates during the crop’s growing season and lower volatility post-harvest when output is known. This practice parallels how equity traders anticipate higher volatility in stock prices ahead of major earnings or profit announcements, and lower volatility after the announcement of profits by the firm.

Like companies facing performance surprises, weather shocks inject information asymmetry into the market, which must be priced into the option premiums. This aligns with the observed Samuelson effect, where futures contracts on commodities tend to have higher volatility when they are near maturity (coinciding with harvest uncertainty).

Market prices of options themselves reflect these expectations. When a looming weather event is expected to cause turmoil, options premiums will rise. The metric capturing this is implied volatility – the volatility level implied by current option prices. Implied vol is essentially forward-looking and will jump if traders foresee choppy waters ahead. Empirical evidence shows that extreme weather forecasts translate into higher implied vols for crop options. In 2012, as drought fears intensified, corn option implied volatility spiked (alongside futures prices). Conversely, once a forecasted drought started being relieved by rains, implied volatility eased off, signaling that some uncertainty had been resolved. A recent study also found that integrating meteorological data (like rainfall and temperature anomalies) into volatility modeling significantly improves the ability to hedge risk in agricultural markets. In other words, the more information we feed into our models about the climate, the more accurately we can price and hedge these derivatives.

Figure 2. Implied Volatility of Crop Options Over Time with Weather Events
Line chart showing implied volatility of crop options over 12 months with spikes linked to weather events
Source: Author’s simulation.

This simulation illustrates the evolution of implied volatility over a 12-month crop cycle. Forecasted climate events—drought (Month 3), frost (Month 6), heatwave (Month 8), and rainfall shortage (Month 11)—lead to moderate but distinct volatility spikes. As uncertainty resolves, volatility returns to baseline.

One practical approach to pricing under climate uncertainty is to use scenario-based or simulation-based models. Instead of assuming a single volatility number, an analyst can simulate thousands of possible weather outcomes (perhaps using historical climate data or meteorological forecast models) and the corresponding price paths for the commodity. Each simulated price path yields a payoff for the derivative (e.g. an option’s payoff at expiration), and by averaging those payoffs (and discounting appropriately), one can derive a weather-adjusted theoretical price. This Monte Carlo style approach effectively treats weather as an external random factor influencing the commodity’s drift and volatility. It’s particularly useful for complex derivatives or when the payoff depends explicitly on weather indices (such as a derivative that pays out if rainfall is below X mm).

When the derivative’s underlying is the commodity itself (e.g. a corn futures option), traditional risk-neutral pricing arguments still apply, but the challenge is forecasting volatility. Traders often adjust the volatility smile/skew on agricultural options to account for asymmetric weather risks – for instance, if a drought can cause a much bigger upside move than a rainy season can cause a downside move, call options might embed a higher implied volatility (reflecting that upside risk of price spikes). This is observed in practice as well; extreme weather events can distort the implied volatility “skew” of crop options, as out-of-the-money calls become more sought after as disaster insurance.

In contrast, if the derivative’s underlying is a pure weather index (say an option on cumulative rainfall), then pricing becomes more complex because the underlying (rainfall) is not a tradable asset. In such cases, the Black-Scholes-Merton formula is not directly applicable. Instead, pricing relies on actuarial or risk-neutral methodologies that incorporate a market price of risk for weather. For example, one method is to estimate the probability distribution of the weather index from historical data, then add a risk premium to account for investors’ risk aversion to weather variability, and discount expected payoffs accordingly. Another method uses “burn analysis” – taking historical weather outcomes and the associated financial losses/gains had the derivative been in place, to gauge a fair premium. Academic research has proposed models ranging from modified Black-Scholes-Merton-type formulas for rainfall (with adjustments for the non-tradability) to advanced statistical models (e.g. Ornstein-Uhlenbeck processes with seasonality for temperature indices. The key takeaway is that whether it’s directly in commodity options or in dedicated weather derivatives, climate factors force us to go beyond textbook models and embrace more dynamic, data-driven pricing techniques.

Why should I be interested in this post?

For an ESSEC student or a young finance professional, this topic sits at the intersection of finance and real-world impact. Understanding weather risk in markets is not just about farming – it’s about how big data and climate science are increasingly intertwined with financial strategy. Agricultural commodities remain a cornerstone of the global economy, and volatility in these markets can affect food prices, inflation, and even economic stability in various countries. By grasping how to value derivatives with climate-based volatility inputs, you are gaining insight into a growing niche of finance that deals with sustainability and risk management. Moreover, the skills involved – scenario analysis, simulation modeling, blending of economic and scientific data – are highly transferable to other domains (think energy markets or any sector where uncertainty reigns). In a world facing climate change, expertise in weather-related financial products could open career opportunities in commodity trading desks, insurance/reinsurance firms, or specialized hedge funds. Ultimately, this post encourages you to think creatively and interdisciplinarily: the best hedging or valuation solutions may come from combining financial theory with environmental intelligence.

Useful resources

Chicago Mercantile Exchange (CME) Weather futures and options product information. (Exchange-traded weather derivative contracts on temperature and other indices)

U.S. Energy Information Administration Drought increases price of corn, reduces profits to ethanol producers (2012). (Article discussing the 2012 drought’s impact on corn prices and volatility)

Nature Communications (2024) Financial markets value skillful forecasts of seasonal climate. (Research showing that seasonal climate outlooks have measurable effects on implied volatility and market uncertainty)

Das, S. et al. (2025) Predicting and Mitigating Agricultural Price Volatility Using Climate Scenarios and Risk Models. (Academic study demonstrating the integration of climate data into volatility models and using Black-Scholes to value a government price support as a put option)

Pai, J. & Zheng, Z. (2013) Pricing Temperature Derivatives with a Filtered Historical Simulation Approach. (Discussion of why Black-Scholes is not directly applicable to weather derivatives and alternative pricing approaches)

About the author

The article was written in May 2025 by Mathias DUMONT (ESSEC Business School, Global Bachelor in Business Administration (GBBA), 2022-2026).

Understanding Break-even Analysis: A Key Financial Technique

July 1, 2025May 29, 2025 by Olivia BRÜN

In this article, Olivia BRÜN (ESSEC Business School, Global Bachelor in Business Administration (BGBA), and ESIC Business School, Bachelor of Business Administration and Management (BBAM), 2022–2026) analyses the concept of break-even analysis, a widely used financial technique employed to determine business profitability. This article illustrates the method in a case study of Watches of Switzerland Group, a publicly listed upscale watch retailer with its headquarters in the United Kingdom.

Introduction and Context

Break-even analysis is a critical component of managerial decision-making and financial planning. It allows companies to determine the level (volume) of sales that will cover all costs, both variable and fixed, before the company can be profitable. The break-even point is a crucial milestone in the operations of a firm. Sales below the break-even point create losses, while sales above it enable every extra unit sold to contribute to overall profitability.

This method is widely used in various industries to evaluate new projects, determine pricing strategies, and examine the financial feasibility of corporate decisions. Especially in capital-intensive industries or businesses focused on product offerings, understanding the break-even point is key to sound financial management and setting realistic sales targets.

History of the Concept

Break-even analysis stems from cost-volume-profit (CVP) analysis. Originating in managerial accounting in the early 20th century, CVP distinguishes between fixed costs (independent of production volume) and variable costs (dependent on production volume). By comparing these costs to projected revenues, decision-makers can identify the break-even point.

Case Study: Watches of Switzerland Group

This case study applies the break-even method to Watches of Switzerland Group PLC, a retailer of high-end watches. The following figures are taken from the company’s 2022 Annual Report:

For full financial details, see the official Watches Annual Report (2022).

Using these values, we compute the variable cost per unit and contribution margin per unit as follows:

Variable cost per unit: £3,132 (= £966.5 million / 308,560)
Contribution margin per unit: £1,868 (= £5,000 – £3,132 )

Break-even point (units): 220,128 units (= Fixed Costs / Contribution Margin per Unit = £411.2 million / £1,868).

At the break-even point, total revenues and total costs are approximately £1.1 billion. Sales above this point generate operating profit.

Break-even Chart from Excel

The chart below illustrates the relationship between total revenue and total cost across different sales volumes. The break-even point is located where the two lines intersect, at approximately 220,128 units, equivalent to around £1.1 billion in revenue. This marks the threshold at which the company covers all fixed and variable costs, resulting in neither profit nor loss.

The underlying Excel model (see “READ ME” tab for detailed explanations) allows for interactive analysis. Users can adjust inputs such as fixed costs, average selling price, and variable cost per unit. The break-even point updates automatically, making the tool highly practical for scenario analysis and financial planning. This kind of sensitivity analysis is essential in real world decision making, especially in industries with high fixed costs like luxury retail.

Break-even Analysis for Watches of Switzerland Group
Source: Excel computation based on data from Watches of Switzerland Group

You may download the Excel file used to do the computations and produce the chart above.

Why should I be interested in this post?

Break-even analysis is fundamental in both theoretical and applied finance. It is widely used in consultancy, financial planning, and entrepreneurship. Understanding this concept allows business professionals to assess cost structures, pricing strategies, and financial viability of new projects.

For an ESSEC student pursuing business or finance, mastering break-even analysis equips you to analyze operational leverage and forecast how profits change with varying sales levels. This insight helps in making informed strategic decisions, managing risk, and ensuring sustainable business growth.

Useful resources

Academic resources

Horngren, C. T., Datar, S. M., & Rajan, M. V. (2015) Cost Accounting: A Managerial Emphasis (15th ed.). Pearson Education. – This foundational textbook offers detailed explanations of break-even analysis, cost behavior, and their relevance in managerial decision-making.

Atrill, P., McLaney, E. (2022) Management Accounting for Decision Makers (10th ed.). Pearson.
– This book focuses on applying break-even and contribution analysis in real business contexts, helping students and professionals make informed financial decisions.

Gallo, A. (2014) A Quick Guide to Breakeven Analysis Harvard Business Review.

Business resources

Watches of Switzerland Group

Watches of Switzerland Group (2022) Annual Report and Accounts 2022

About the author

The article was written in May 2025 by Olivia BRÜN (ESSEC Business School, Global Bachelor in Business Administration (BGBA), and ESIC Business School, Bachelor of Business Administration and Management (BBAM), 2022–2026), 2022–2026).

My Internship Experience at The Ministry of Citizenship and Multiculturalism

May 25, 2025May 25, 2025 by Adelaide RIDER-NICHOLSON

In this article, Adelaide RIDER-NICHOLSON (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025) shares their internship experience with the Government of Canada at the Ministry of Citizenship and Multiculturalism. They explore the structure of the Ministry, its mandate, and their involvement in policy research and community engagement projects.

About the Ministry of Citizenship and Multiculturalism

The Ministry of Citizenship and Multiculturalism is a part of the Government of Canada and is responsible for advancing inclusive policies, promoting multicultural values, and ensuring that newcomers and minority communities are supported through public services and community initiatives. The Ministry plays a critical role in shaping Canada’s multicultural identity and ensuring equitable access to opportunities across all communities.

Logo of Government of Ontario.

Source: the Government of Ontario.

As a public institution, the Ministry’s focus is not profit-driven but centered on social impact, public service, and civic responsibility. Its work ranges from supporting newcomer integration, funding ethnocultural community organizations, and developing anti-racism strategies to promoting civic engagement and Canadian values of pluralism and diversity.

The Working Process

Like many public service departments, the Ministry follows a structured approach to designing and implementing programs. This process often involves:

Step 1: Policy Mandate & Strategic Planning

All projects begin with a mandate from the provincial or federal government. These directives outline focus areas — such as improving access to services for racialized communities or enhancing civic education among youth. Strategic planning follows, during which interdepartmental teams define objectives, allocate resources, and consult stakeholders.

Step 2: Research and Community Engagement

To ensure that initiatives reflect lived experiences, the Ministry often conducts stakeholder engagement, community consultations, and data analysis. As an intern, I was involved in this step—compiling demographic reports, preparing surveys, and participating in virtual town halls with community leaders and non-governmental organizations (NGOs).

Step 3: Policy Development and Program Delivery

Once the research and feedback are analyzed, policy advisors draft policy proposals or refine programs. These may include funding frameworks, anti-racism toolkits, or educational materials. Interns assist by reviewing comparative policy models, drafting briefing notes, or supporting communications plans for public outreach.

Each level of the organization plays a specific role—from data collection and research at the analyst level to shaping the long-term vision of the Ministry at the executive level. Cross-functional teamwork is essential, especially between communications, operations, and policy units.

Work Environment & Ethics

Working at the Ministry was defined by its strong commitment to equity, inclusion, and accountability. Unlike the private sector, timelines are often influenced by legislative cycles and public consultations, which means balancing patience with precision. The emphasis on confidentiality and clarity in communication is paramount—every briefing note or report may eventually inform public policy.

Colleagues were incredibly supportive and willing to share their career journeys in public service. Weekly check-ins, mentorship coffee chats, and access to learning portals created a welcoming and growth-oriented atmosphere.

One important takeaway was the Ministry’s emphasis on evidence-based policy—decisions were never rushed and were always informed by extensive research and inclusive dialogues.

Required skills and knowledge

During my internship at the Ministry of Citizenship and Multiculturalism, I developed a balanced mix of hard and soft skills essential for a career in public policy and beyond. On the technical side, I strengthened my analytical abilities by working with demographic data, preparing briefing notes, and evaluating policy frameworks with measurable outcomes. I also became proficient in using government reporting tools and adhering to formal policy-writing standards. Equally important were the soft skills I honed: navigating cross-cultural communication during community consultations, adapting to a formal bureaucratic environment, and presenting complex findings in a clear, accessible way for both internal and public stakeholders. These experiences sharpened my critical thinking, diplomacy, and attention to detail—skills that are invaluable for any ESSEC student aiming to lead responsibly in business, government, or international organizations.

What I learned

One of the most impactful lessons I learned during my internship was how deeply interconnected public policy is with real-world social outcomes. I gained a clearer understanding of how decisions made at the ministry level directly influence funding for grassroots organizations, support for immigrant communities, and the implementation of inclusive practices across the province. I also came to appreciate the importance of patience and persistence in government work—policy change is often gradual, requiring continuous stakeholder engagement and rigorous documentation. Perhaps most importantly, I learned how to approach complex social challenges with a structured, evidence-based mindset, and how public institutions balance political direction with long-term societal goals.

Financial concepts related to my internship

I present below three financial concepts related to my internship: public budgeting, cost-benefit analysis, and grant funding allocation. These concepts were central to my work at the Ministry of Citizenship and Multiculturalism and helped me understand how financial principles are applied in public policy decision-making.

Public Budgeting

Public budgeting is the process by which government departments plan, allocate, and manage financial resources in alignment with policy goals. During my internship, I observed how the Ministry sets budget priorities based on strategic objectives such as promoting multiculturalism and supporting newcomer integration. This involved reviewing financial plans, aligning spending with program goals, and ensuring accountability in how public funds are used. Through this, I gained an understanding of how budgets are not just numbers but reflect broader social and political commitments.

Cost-Benefit Analysis

Cost-benefit analysis (CBA) is a tool used to evaluate the efficiency of public programs by comparing expected costs with anticipated benefits. I encountered this concept while working on internal policy reviews, where analysts used CBA to assess the viability of expanding or adjusting government initiatives. For example, I contributed to a report evaluating the effectiveness of community grants in reducing barriers for racialized youth. CBA helped inform whether the social outcomes achieved justified the public investment, which is crucial for responsible policy-making.

Grant Funding Allocation

Grant funding allocation refers to the process of distributing government funds to external organizations that align with specific policy objectives. One of my key tasks was helping review grant applications from community groups. This required assessing the financial soundness of proposals, projected outcomes, and how well each initiative aligned with Ministry goals. I learned how financial evaluation, transparency, and strategic impact all factor into deciding which organizations receive public funding. This experience deepened my appreciation for the financial scrutiny that underpins every public dollar awarded.

Why should I be interested in this post?

For an ESSEC student passionate about business, finance, and public impact, this internship experience highlights how government institutions like the Ministry of Citizenship and Multiculturalism play a vital role in shaping inclusive economic policies and managing resource allocation across diverse communities. Understanding how policy is developed, funded, and implemented not only broadens your perspective on governance but also strengthens your ability to assess financial decisions through a social lens. This exposure is especially relevant for those aiming to work in ESG investing, impact consulting, or public-private partnerships—where financial strategy and social responsibility go hand in hand.

Useful resources

Government of Canada – Multiculturalism and Anti-Racism Program – Official site providing information on funding programs and strategies to promote equity and inclusion.

Statistics Canada – Immigration and Ethnocultural Diversity Statistics – Demographic data and analytical reports essential for evidence-based policy decisions.

OECD – Public Integrity – International best practices and frameworks on transparency and ethical governance.

Treasury Board of Canada Secretariat – Policy on Results – Framework for planning, measuring, and reporting on public sector performance.

About the author

The article was written in May 2025 by Adelaide RIDER-NICHOLSON (ESSEC Business School, Global Bachelor in Business Administration (GBBA) – Exchange Student, 2025).

Hyperinflation in Hungary: 1945-1946

May 24, 2025 by Anant JAIN

Hyperinflation in Hungary: 1945-1946

In this article, Anant JAIN (ESSEC Business School, Grande Ecole Program – Master in Management, 2019-2022) talks about the hyperinflation in Hungary during the period 1945-46.

Introduction

Hungary was affected by one of the most severe hyperinflation episodes ever seen, which was caused by the aftermath of World War II. During this time, from August 1945 to July 1946, the monthly inflation rate exceeded 19,000 percent as prices skyrocketed.

Causes Of Hyperinflation

Certain factors contributed to the economic and social catastrophe the country experienced:

War Devastation

The Economy of Hungary was in a very poor place due to the physical damage experienced in World War II. The war resulted in lost factories, bridges, railways, as well as the land that was destroyed rendered the supply chain and industrial output even further crippled. Many farms were also affected as huge portions of the land went wild and a lot of the required equipment was decimated as well.

Reparations & Occupation

Hungary was obligated to pay reparations to the Soviet Union, placing a significant strain on its economy. The Soviet occupation further exacerbated the situation by extracting resources, including raw materials and industrial goods, which were sent to the Soviet Union.

Excessive Money Printing

As a response to the economic issues, the Hungarian government drastically increased the money supply in an attempt to address economic concerns, which worsened the situation revealing the deficiencies of the Hungarian pengő. The central government continuously introduced bigger and bigger banknotes into the economy, but this only made the situation worse. The peak of this chaos ended in the introduction of the 100 quintillion pengo banknote which happened at the end of the hyperinflation period.

Figure 1. Banknotes In Circulation 1945-1946.
Title
Source: Peter Z. Grossman – Butler Digital Commons

The Extent of Hyperinflation

Hyperinflation peaked in July 1946, with prices doubling approximately every 15 hours. The highest inflation rate was estimated to be at 350% in the worst day and in its course, the value of the pengo began to lessen and when this era came to an end, it meant that 1 dollar was almost equivalent to 59 billion pengos. The sad case was that inflation bred poverty, this cycle would leave the masses struggling.

Impact on Society

The hyperinflation had devastating effects on Hungarian society:

Savings Wiped Out

People’s life savings were rendered worthless almost overnight. Many individuals who had saved diligently for years found themselves destitute. The middle class, in particular, was hit hard, as their financial security evaporated in a matter of months.

Barter System

The trade of products and services through the bartering system saw a massive resurgence. All sorts of markets began to trade items such as foodstuff, clothing and tools directly, thus avoiding the worthless currency. In this way, the barter system remained inefficient and further made daily life more difficult to manage.

Economic Instability

Businesses struggled to operate in such an unpredictable economic environment, leading to widespread closures and unemployment. Employers could not pay their workers in stable currency, and many businesses went bankrupt. The lack of a stable currency also hindered investment and economic planning.

Efforts To Stabilize The Situation

On August 1, 1946, the Hungarian government attempted to curb hyperinflation by introducing forint currency, substituting pengõ at rate of four hundred octillion pengos per unit of forint. The introduction of this currency was a major step towards the reclamation of the economy, yet it must be noted that the currency was coupled with other very important factors of the economy as well.

Monetary Reform

Through monetary reform, the government put in place restrictions that were aimed at minimizing the money supply, and thereby inflation. This included an end to printing money to the extreme and guaranteeing that the new currency is fully backed by tangible assets. These were necessary conditions for enhancing public confidence in the currency and in managing inflation.

Pengő tax reform

In the hyperinflationary context, a temporary measure, designated “tax pengő index,” was implemented. Operating on a daily basis, this system served to smoothen the conversion rates with the changes in the prices which helped the transactions to be adequately organized and the control over the economy to some extent restored.

Economic Reforms

In combination with the monetary reform, the government undertook much more comprehensive measures with the goal of directing the rebuilding of the economy. It included actions intended to boost industrial output, increase agricultural production and restore hidden economy. These reforms were significant in setting the stage for enduring and efficient economic policies.

4. International Aid and Cooperation

Hungary also received assistance from international organizations and allied nations. This aid was vital in providing the necessary resources for economic recovery and in supporting the stabilization efforts. International cooperation played a significant role in Hungary’s ability to overcome the hyperinflation crisis.

Impact On Today’s Hungarian Economy

The hyperinflation that went through Hungary in the years of 1945-46 shaped the country turning it into what can be viewed as today’s Hungary, and many of those changes became more obvious.

A. Key Economic Takeaway

1. Monetary Policy Awareness

The onslaught of hyperinflation was a serious lesson learnt by Hungary in managing the basics of monetary policy. Even this single historical experience of the country has changed how it thinks about inflation and more so about currency stability as it makes them very conscious about the chances of inflation and printing of money beyond acceptable limits.

2. Economic Reforms and Stability

The time of hyperinflation masqueraded the need for deep economic reforms including the inception of the new currency the forint and monetary dispensations. These reforms transformed the prospects of the Hungarian economy as one seeking sound management and policy measures to avert crises.

3. Institutional Strengthening

The lesson from the crisis was strong financial institutions and supervision is essential. In the last decades, Hungary has tried to create such capable institutions in order to cope with future economic shocks and secure their economy.

B. Social and Cultural Aspects

1. Public Trust In Currency

The hyperinflation phase notably diminished public confidence in its domestic currency, a sentiment that was difficult to restore. Such memories of history have made Hungarians very sensitive to episodes of inflation and depreciation of their currency. This makes Hungarians have an unpredictable attitude regarding policies concerning economic aspects and management of money.

2. Economic Resilience

The economic culture prevailing in Hungary after hyperinflation shows understanding economics and having a variety of ways to adjust in the economy. These experiences of the past are helping an entire generation in restructuring their businesses and household models.

C. Modern Economic Policies

1. Inflation Targeting

The central bank of Hungary ‘Magyar Nemzeti Bank’ (MNB) has adopted an approach of inflation targeting which has become part of its monetary policy framework. This was aimed at maintaining inflation at or between specified levels and focused also on maintaining other aspects of economic growth as well.

2. Fiscal Discipline

Hyperinflation has made Hungarians economically sound. They did learn after the painful experience of economic chaos. The nation is careful to prevent these situations from occurring again by first approaching the problem of balancing the budget while ensuring their public debt stays low.

Conclusion

The hyperinflation which took place in Hungary between 1945 and 1946 is perhaps the single most striking example of what can happen when economic management techniques are not employed and more pertinently how consequential the effects of war can be. While it is often recognized as one of the most severe cases of hyperinflation, only a handful of other instances throughout the world rival it. The key point to be understood from this episode is the significance of having a sound economic policy framework as well as international coordination, particularly for post-war rebuilding purposes.

The years 1945-1946 will be marked in history as the years of hyperinflation in Hungary, and it was devastating for the economy of Hungary. The memories of these years are still fresh and remain close to the countries monetary and fiscal policies. The cost of hyperinflation is now taken care of as many years have gone past, but the impact of hyperinflation can still be seen as ravage in the economy of Hungary. Hungary seems to have adopted a very watchful and strategic approach towards its economy.

Useful Resources

Econlib: Hyperinflation

JSTOR: The Hungarian Hyperinflation

Nuremberg Media: Hungary’s Hyperinflation

About The Author

The article was written in May 2025 by Anant JAIN ESSEC Business School, Grande Ecole Program – Master in Management, 2019-2022).

Introduction to Capital Structure

Beyond Taxes — The Real-World Cost of Debt

The Trade-Off Theory: Balancing Tax Shields and Bankruptcy Costs

How Firm Value Changes with Debt

Static vs. Dynamic Trade-Off Models: From Simplified Theory to Real-World Complexity

Static Trade-Off Models: A Snapshot of Capital Structure

Dynamic Trade-Off Models: Capturing Real-World Decision-Making

Types of Bankruptcy Costs: The Hidden Burden of Excessive Leverage

Academic Contributions on Bankruptcy and Alternative Views on Capital Structure

Practical Considerations in Capital Structure Decisions

Real-World Capital Structure Choices

Why Should I Be Interested in This Post?

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About the author

Introduction

Modigliani-Miller 1963 Theorem (M&M 1963)

Miller (1977): The Role of Personal Taxes in Capital Structure

Value of a Levered Firm according to Miller (1977)

The Equilibrium Capital Structure Across Firms

How Miller (1977) Redefined the Cost of Equity and WACC from Modigliani-Miller (1963)

Why Should I Be Interested in This Post?

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About the author

Introduction to Modigliani and Miller Propositions

Modigliani-Miller 1963 Theorem (M&M 1963)

Case Study: Implications of M&M 1963 (Optimal Capital Structure with corporate taxes)

How Modigliani-Miller (1963) Redefined the Cost of Equity and WACC from Modigliani-Miller (1958)

Impact on the Cost of Equity (rE)

Impact on the Weighted Average Cost of Capital (WACC)

Case Study: Implications of M&M 1963 (Optimal Capital Structure with corporate taxes)

Takeaways on Optimal Debt Structure and Bankruptcy Costs from M&M 1963 Theorem

Why Should I Be Interested in This Post?

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The World Trade Organization (WTO)

Trade Negotiation Teams – Representatives

Examples of governments’ Tariffs – a case study

Trump – the U.S. – China Trade War during 2018 to 2020

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Brief explanation of history of global tariffs

The Protectionism Approach

Trade Liberalization

Complex Socio-economical landscapes

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About the author

Introduction: What are tariffs?

Different types of tariffs

Ad Valorem Tariffs

Specific tariffs

Compound tariffs

Sliding Scale tariffs

Protective tariffs

Revenue tariffs

Economic Effects of Tariffs

The effect of tariffs on consumers

The effect of tariffs on domestic producers

The effect on governments and the international landscapes

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Useful resources

About the author

About the company

My internship

My missions

Required skills and knowledge

What I learned

Financial concepts related to my internship

Efficient market hypothesis

Client Relationship management

Sharpe ratio

Why should I be interested in this post?

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Impact on the Cost of Equity (r_E)