.1482 shares of its American Depository Shares3 for each outstanding common share of Baxalta in January 2016. At
closing, Shire shareholders will own 66% of the combined firms and Baxalta shareholders the remainder, which
appeared to preserve the tax status of the spinoff.4
M&A negotiations are by their nature dynamic in that the circumstances surrounding a takeover attempt can
change quickly requiring decision makers to evaluate their options in “real time” to bring the negotiations to a
satisfactory conclusion. Financial models often serve as an important tool in such situations as their proforma (or
adjusted) financial statements illustrate what the combined firms would look like under alternative scenarios. For
example, Shire announced that the combined firms could deliver $20 billion in revenue by 2020 and that the deal
would be accretive to earnings by the second year following closing based on the firm’s estimates of the amount and
timing of anticipated synergies.
Shire would be able to determine the implications of an all stock versus a cash and stock deal on the combined
firms’ earnings per share and credit rating due to the resulting increased leverage, as well as postclosing ownership
distribution. Such models provide estimates of synergy from potential cost savings or revenue enhancements needed
to determine if the proposed purchase premium could be earned back within a reasonable time period enabling the
firm to earn its cost of capital. Moreover, models could be used to display on a proforma (or adjusted) basis the
impact of tax savings resulting from Baxalta paying an effective U.S. tax rate of 23% versus 17% if incorporated in
Ireland. Models also are helpful in determining the impact of concessions demanded by the regulators to approve the
deal on the attractiveness of the deal.
Baxalta could have used models to evaluate the attractiveness of the various offers made by Shire and to provide
their own their own estimate of potential synergy, allowing it to argue that Baxalta shareholders should be
compensated at least for the amount of additional value they are contributing to the merged companies.
Models also assist in evaluating the impact of target defenses such as a poison pill on the cost of the deal to the
acquirer. Baxalta’s poison pill defense would have been triggered when a suitor unwanted by the board acquired
more than a 9.9% stake in the business. Removing this pill would have been particularly difficult because of
Baxalta’s staggered board in which its directors serve three–year, overlapping terms, meant that it would take Shire
two years to gain control.
Thus, from start to finish, financial models can play a key role in the M&A process. First by providing a baseline
financial projection reflecting the firm’s current strategy and later the ability to see how certain acquisitions and
investments could impact the baseline projection. In addition, once a target has been identified, financial models
assist in the valuing the target and assessing the attractiveness of alternative offers and counter-offers and the ability
of the acquirer to finance the deal.
Comcast Bids for Time Warner Cable—Evaluating Proposals and Counter Proposals
A sometimes bitter eight month long struggle between Charter Communications Inc. (Charter) and Time Warner
Cable Inc. (TWC) came to an end with the joint announcement by Comcast Corporation (Comcast) on February 14,
2014 that it had signed a merger agreement with TWC. The deal involved the merger of the largest and second
largest cable companies in terms of subscribers in the U.S. and faced major regulatory hurdles if it were to reach
completion. What follows is a discussion based on SEC filings of the dynamic ebb and flow of the negotiating
process involving at various times three different parties: TWC, Charter, and Comcast. Given the sophistication of
the participants, it is highly likely that financial models played a critical role in the underlying decision-making
process.
collectively maintain a 50% equity ownership interest in both the parent firm and the spun off firm. If this condition
is not satisfied, the parent can be subject to a tax penalty. This is called the “anti–Morris Trust rule.”
3 An American Depository Share is a stock trading on a U.S. exchange that represents a specific number of shares in
a foreign firm.
4 Shire’s revised bid is predicated on their belief that the deal will not trigger a tax liability for Baxter International
as long as it can show that there the deal negotiated with Baxalta was not negotiated as part of a plan developed
prior to the spin-off by Baxter. As part of the spinoff agreement with Baxter, Shire would be required to reimburse
Baxter for tax liability it might incur as a consequence of the spinoff.
At the time of this writing, the combination of Comcast and Time Warner had not yet received regulatory
approval. The reasons for regulatory concerns are explained later in this case. However, regardless of the final
decision made by the regulators, the negotiation between these firms illustrates how financial models can be used in
M&A deal making.
The drama started on May 22, 2013 when Charter, the nation’s fourth largest cable operator backed by its largest
investor Liberty Media Corporation (Liberty) led by cable industry pioneer John Malone, approached TWC about
the possibility of a takeover. Charter’s pursuit of TWC began shortly after Liberty bought a 27% stake in Charter in
late 2012. Charter had made three offers consisting of cash and stock, the most recent of which was valued at
$132.50. All three were rejected by TWC as too low. TWC CEO Rob Marcus clearly set expectations by saying
publicly he wanted $160 per share.
While Liberty and Charter’s approaches to TWC had been public for months, Comcast’s interest did not become
public until November 2013. Comcast had entered the fray in mid–2013 when the firm’s CEO Brian Roberts queried
informally TWC’s then CEO Glenn Britt about the possibility of a merger. These discussions stalled over the size of
the purchase price and its composition.
Comcast had also been talking with Charter about possibly participating in Charter’s bid for TWC during late
2013, but those talks broke down on February 4, 2014 according to SEC filings. Within a few days Comcast’s board
authorized CEO Brian Roberts to offer $150 per share for all outstanding TWC shares to be paid in Comcast shares
on the condition there would be no breakup fee if regulatory approval could not be achieved. The pace of
discussions intensified with TWC responding on February 6, 2014 saying it would agree to a deal without a breakup
fee as long as Comcast offered a price of $160 per share. The final all-stock deal was signed a week later based on
Comcast’s closing share price on February 12, 2014 of $158.82.
The catalyst fueling the acceleration in discussions may have been the news on February 2, 2013 that Charter had
nominated in advance of the TWC spring 2014 annual meeting a group of thirteen candidates to replace the entire
TWC board. TWC had long seen Comcast as the preferred buyer as a deal with Charter would have burdened the
combined firms with substantial amounts of additional debt. Settling with Comcast also meant avoiding an
expensive and perhaps protracted proxy battle with Charter over TWC’s board representation.
Valued at $45.2 billion, the deal represented an 18% premium to TWC’s closing price the day before the deal
was announced and would result in TWC shareholders owning 23% of the combined firms. As part of the
announcement, Comcast said it would expand its share repurchase program to $10 billion to begin at the end of 2014
to offset some of the potential dilutive effects of issuing new Comcast shares in exchange for TWC shares.
Strategically, the deal made sense for Comcast. Combining TWC and Comcast is expected to generate $1.5
billion in ongoing annual cost savings, with one-half occurring in the first year. The deal is expected to be accretive
(increasing EPS) for Comcast shareholders and reflected an attractive premium for TWC shareholders. However,
TWC’s stock jumped 7.4% on the announcement to $145.36, while Comcast fell 3% to $53.59. Why did TWC’s
share price rise by less than one–half of the implied premium and Comcast’s share price plummet? Because
investors were skeptical the deal would be approved by the U.S. Justice Department and the Federal
Communications Commission.
Even though the two firms do not compete directly in most markets, there are concerns that an even bigger
Comcast could wield too much power in negotiating with content owners. In addition, critics opined that Comcast
could exert too much influence over the broadband infrastructure by unfairly blocking or slowing the traffic of
online video competitors to the benefit of their own services (thereby violating the so–called net neutrality
principle).5
Comcast stated publicly that they would sell three million of TWC’s eleven million subscribers to other cable
companies such as Cox and Charter and would agree to other reasonable conditions to lessen these concerns. By
selling these TWC subscribers, Comcast would keep its market share nationwide below 30%, a figure that had
proven acceptable to regulators in two previous acquisitions of cable firms by Comcast in 2002 and 2006.
After eight months of exchanging proposals and counter-proposals with various parties, the final deal came
together in less than two weeks. The dynamic nature of the negotiations required the decision makers to evaluate
their options quickly to bring the negotiations to a satisfactory conclusion. Financial models often serve as an
important tool in such situations.
Using proforma financial statements to illustrate what the combined firms would look like, Comcast was able to
determine the implications of an all stock versus a cash and stock deal on the combined firms’ earnings per share
and credit rating. Such models provided estimates of potential synergy needed to determine if the proposed purchase
premium could be earned back within a reasonable time period enabling the firm to earn its cost of capital. TWC
could have used models to evaluate the attractiveness of various offers made by Comcast and Charter and to provide
their own estimate of potential synergy, allowing it to argue that TWC shareholders should be compensated at least
for the amount of additional value they are contributing to the merged companies. Models also are helpful in
determining the impact of concessions demanded by the regulators on the attractiveness of the deal. Thus, from start
to finish, financial models can play a key role in the M&A process.
Mars Buys Wrigley in One Sweet Deal
Under considerable profit pressure from escalating commodity prices and eroding market share, Wrigley
Corporation, a U.S.-based leader in gum and confectionery products, faced increasing competition from Cadbury
Schweppes in the U.S. gum market. Wrigley had been losing market share to Cadbury since 2006. Mars
Corporation, a privately owned candy company with annual global sales of $22 billion, sensed an opportunity to
achieve sales, marketing, and distribution synergies by acquiring Wrigley Corporation.
As of the September 28, 2008 closing date, Wrigley became a separate stand–alone subsidiary of Mars, with $5.4
billion in sales. The deal is expected to help Wrigley augment its sales, marketing, and distribution capabilities. To
provide more focus to Mars’s brands in an effort to stimulate growth, Mars would in time transfer its global
nonchocolate confectionery sugar brands to Wrigley. Bill Wrigley Jr., who controls 37 percent of the firm’s
outstanding shares, remained the executive chairman of Wrigley. The Wrigley management team also remained in
place after closing.
The combined companies would have substantial brand recognition and product diversity in six growth
categories: chocolate, nonchocolate confectionary, gum, food, drinks, and pet care products. While there is little
product overlap between the two firms, there is considerable geographic overlap. Mars is located in 100 countries,
while Wrigley relies heavily on independent distributors in its growing international distribution network.
Furthermore, the two firms have extensive sales forces, often covering the same set of customers.
5 Net neutrality refers to internet service providers and governments treating all data on the internet equally and
not discriminating or charging different users and content providers different rates.
While mergers among competitors are not unusual, the deal’s highly leveraged financial structure is atypical of
transactions of this type. Almost 90 percent of the purchase price would be financed through borrowed funds, with
the remainder financed largely by a third-party equity investor. Mars’s upfront costs would consist of paying for
closing costs from its cash balances in excess of its operating needs. The debt financing for the transaction would
consist of $11 billion and $5.5 billion provided by J.P. Morgan Chase and Goldman Sachs, respectively. An
additional $4.4 billion in subordinated debt would come from Warren Buffet’s investment company, Berkshire
Hathaway, a nontraditional source of high-yield financing. Historically, such financing would have been provided
by investment banks or hedge funds and subsequently repackaged into securities and sold to long-term investors,
such as pension funds, insurance companies, and foreign investors. However, the meltdown in the global credit
markets in 2008 forced investment banks and hedge funds to withdraw from the high-yield market in an effort to
strengthen their balance sheets. Berkshire Hathaway completed the financing of the purchase price by providing
$2.1 billion in equity financing for a 9.1 percent ownership stake in Wrigley.
Discussion Questions:
1. Why was market share in the confectionery business an important factor in Mars’ decision to acquire
Wrigley?
2. It what way did the acquisition of Wrigley’s represent a strategic blow to Cadbury?
3. How might the additional product and geographic diversity achieved by combining Mars and Wrigley
benefit the combined firms?
4. Speculate as to the potential sources of synergy associated with the deal. Based on this speculation what
additional information would you want to know in order to determine the potential value of this synergy?
5. Given the terms of the agreement, Wrigley shareholders would own what percent of the combined
companies? Explain your answer
Tribune Company Acquires the Times Mirror Corporation
in a Tale of Corporate Intrigue
Background: Oh, What Tangled Webs We Weave. .
.
CEO Mark Willes had reason to be optimistic about the future. Operating profits had grown at a double-digit rate,
and earnings per share had grown at a 55% annual rate between 1995 to 1999. Many shareholders appeared to be
satisfied. However, some were not. Although pleased with the improvement in profitability, they were concerned
about the long-term growth prospects of the firm. Reflecting this disenchantment, Times Mirror’s largest
shareholder, the Chandler family, was contemplating the sale of the company and along with it the crown jewel Los
Angeles Times. It had been assumed for years that the Chandler family trusts made a sale of Times Mirror out of the
question. The Chandler’s super voting stock (i.e., stock with multiple voting rights) allowed them to exert a
disproportionate influence on corporate decisions. The Chandler Trusts controlled more than two-thirds of voting
shares, although the family owned only about 28% of the total shares of the outstanding stock.
Following months of secret negotiations, the Chicago-based Tribune Company and the Times Mirror Corporation
announced a merger of the two companies in a cash and stock deal valued at approximately $7.2 billion, including
$5.7 billion in equity and $1.5 billion in assumed debt. The transaction, announced March 13, 2000, created a media
giant that has national reach and a major presence in 18 of the nation’s top 30 U.S. markets, including New York,
Los Angeles, and Chicago. The combined company has 22 television stations, four radio stations, and 11 daily
newspapers—including the Los Angeles Times, the nation’s largest metropolitan daily newspaper and flagship of the
Times Mirror chain.
Transaction Terms: Tribune Shareholders Get Choice of Cash or Stock
The Tribune agreed to buy 48% of the outstanding Times Mirror stock, about 28 million shares, through a tender
offer. After completion of the tender offer, each remaining Times Mirror share would be exchanged for 2.5 shares of
Tribune stock. Under the terms of the transaction, Times Mirror shareholders could elect to receive $95 in cash or
2.5 shares of Tribune common stock in exchange for each share of Times Mirror stock. Holders of 27.2 million
shares of Times Mirror stock elected to receive Tribune stock, whereas holders of 10.6 million elected to receive
cash. Because the amount of cash offered in the merger was limited and the cash election was oversubscribed, Times
Mirror shareholders electing to receive cash actually received a combination of cash and stock on a pro rata basis
(Table 1).
Table 1. Times Mirror Transaction Terms
As of June 12, 2000 Transaction Value
Times Mirror Shares Outstanding @ 3/13/00 59,700,000
No. of Times Mirror Shares Exchanged for 2.3
Shares of Tribune Stock 27,238,253 $2,587,634,0351
No. of Times Mirror Shares Exchanged for Cash 10,648,318 $1,011,536,9682
Times Mirror Shares Outstanding after Tender Offer 21,813,429
No. of New Tribune Shares Issued for Remaining
Times Mirror Shares 54,533,5735 $2,072,275,7743
Equity Value of Offer $5,671,446,777
Market Value of Times Mirror on
Merger Announcement Date $2,805,900,0004
Premium 102%
127,238,253 2.5 $38/share of Tribune stock.
2$41.70 in cash + 1.4025 shares of Tribune stock $38 per share for each Times Mirror share remaining
10,648,318.
3Equals 2.5 shares 21,813,429 $38 per Tribune share.
4Times Mirror share price on announcement date of $47 times 59,700,000.
5The total number of new Tribute shares issued equals 27,238,318 2.5 + 10,648,318 2.5 + 54,533, 573 or
137,537,013.
Newspaper Advertising Revenues Continue to Shrink
Most U.S. newspapers are mired in the mature or declining phase of their product life cycle. For the past half-
century, newspapers have watched their portion of the advertising market shrink because of increased competition
from radio and television. By the early 1990s, all major media began taking a significant hit in their advertising
Times Mirror: A Largely Traditional Business Model
As essentially a traditional newspaper, Times Mirror publishes five metropolitan and two suburban daily
newspapers, a variety of magazines, and professional information such as flight maps for commercial airline pilots.
The Los Angeles Times, a southern California institution founded in 1881, is Times Mirror’s largest holding and
operates some two dozen expensive foreign news bureaus—more than any other newspaper in the country. The Los
Angeles Times has more than 1200 Los Angeles Times reporters and editors around the world (CNNfn, March 13,
2000).
Tribune Company Profile: The Face of New Media?
Unlike the Times Mirror, Tribune has built its strategy around four business groups: broadcasting, publishing,
education, and interactive. The Tribune is also an equity investor in America Online and other leading internet
companies, underscoring the company’s commitment to new–media technologies. Applying leading edge new-media
technology has allowed the Tribune to transform they way it does business, and the technology commitment creates
the opportunity for future growth. The internet has been the greatest driver for change, and the Tribune’s interactive
business group continues to focus on capitalizing on emerging Web technologies. Throughout the company, new
technologies have been applied aggressively to create new products, improve existing products, and make operations
more efficient. The Tribune’s non-newspaper revenues accounted for more than half of its earnings by 2000.
Anticipated Synergy
Cost Savings: Opportunities Abound
Cost savings are expected because of the closing of selected foreign and domestic news bureaus, a reduction in the
cost of newsprint through greater volume purchases, the closing of the Times Mirror corporate headquarters, and
elimination of corporate staff. Such savings are expected to reach $200 million per year (Table 2).
Revenue: Great Potential . . . But Is It Achievable?
The combined companies will have a major presence in 18 of the nation’s top 30 U.S. advertising markets, including
New York, Los Angeles, and Chicago. The combined companies provide unprecedented opportunities for
advertisers to reach major market consumers in any media form—broadcast, newspapers, or interactive. In addition,
the combined companies will benefit consumers by giving them rich and diverse choices for obtaining the news,
information, and entertainment they want anytime, anywhere. These factors provide an increased ability to capture
national advertising in the most important U.S. population centers. The significantly greater breadth of the combined
firm’s geographic coverage is expected to boost advertising revenues from about 3% to 6% annually.
Integration Challenges: Cultural Warfare?
Based on the current, traditional culture found at the Los Angeles Times and other Times Mirror properties,
Financial Analysis
The present values of the Tribune, Times Mirror, and the combined firms are $8.5 billion, $2.4 billion, and $16.5
billion, respectively; the estimated present value of synergy is $5.6 billion (Table 3). This assumes that pretax cost
savings are phased in as follows: $25 million in 2000, $100 million in 2001, and $200 million thereafter. The cost
savings are net of all expenses related to realizing such savings such as severance, lease buyouts, and legal fees.
Table 2. Annual Merger-Related Cost Savings
Source of Value Annual Savings
Bureau Closings1 $73,000,000
Newsprint Savings2 $93,000,000
Other Office Closings (e.g., Corporate Office in Los Angeles)3 $34,000,000
Total Annual Savings $200,000,000
1Assumes Tribune will close overlapping bureaus in United States (9) and most of the Times Mirror’s foreign
bureaus (21 abroad).
2As a result of bulk purchasing and more favorable terms with different suppliers, 15% of the newsprint expense of
the combined companies is expected to be saved.
3Layoffs of 120 L.A. Times Mirror Corporate Office personnel at an average salary of $125,000 and benefits equal
to 30% of base salaries. Total payroll expenses equal $19,500,000 (i.e., $125,000 1.3 120). Lease, travel and
entertainment, and other support expenses added another $14.5 million.
Source: Moore, Kathryn, Tim Schnabel, and Mark Yemma, “A Media Marriage,” paper prepared for Chapman
University, EMBA 696, May 18, 2000, p. 9.
Table 3. Merger Evaluation
1998
1999
2000
2001
2002
2003
2004
2005
Tribune
($ Millions)
Sales
2980.9
3221.9
3261.5
3473.5
3699.3
3939.7
4195.8
4468.5
Operating
Expenses
2279.0
2451.0
2283.1
2431.4
2589.5
2757.8
2937.1
3128.0
EBIT
701.9
770.9
978.5
1042.0
1109.8
1181.9
1258.7
1340.6
EBIT(1 – t)
421.1
462.5
587.1
625.2
665.9
709.2
755.2
804.3
Depreciation
195.5
221.1
212.0
225.8
240.5
256.1
272.7
290.5
Gross Plant &
Equipment
139.7
134.7
163.1
173.7
185.0
197.0
209.8
223.4
Change in
Working Capital
49.0
1107.0
260.9
243.1
258.9
275.8
293.7
312.8
Free Cash Flow
to Firm
427.9
-558.1
375.1
434.2
462.4
492.5
524.5
558.6
PV (2001–2005)
@8.5
PV (Terminal
Value) @8.5
Total Present
Value
11195.7
Less: Long-
Term Debt
2694.2
Plus: Excess
Cash Balances
0
Equity Value
8501.5
Shares
Outstanding
237.4
Equity Value Per
Share
35.81
Times Mirror
Sales
2728.2
2783.9
3029.2
3140.0
3297.0
3461.9
3634.9
3816.7
4007.5
Operating
Expenses
2337.0
2380.5
2558.7
2449.2
2571.7
2700.2
2835.3
2977.0
3125.9
EBIT
391.2
403.4
470.5
690.8
725.3
761.6
799.7
839.7
881.7
EBIT(1 – t)
234.7
242.0
282.3
414.5
435.2
457.0
479.8
503.8
529.0
Depreciation
133.4
152.1
166.4
188.4
197.8
207.7
218.1
229.0
240.5
Gross Plant &
173.4
131.5
113.0
125.6
131.9
138.5
145.4
152.7
160.3
Equipment
Change in
Working Capital
551.1
-791.1
251.2
257.2
270.0
283.5
297.7
312.6
Free Cash Flow
to Firm
-288.5
1126.8
226.1
244.0
256.2
269.0
282.4
296.6
PV (2001–2005)
@ 9.5%
PV (Terminal
Value) @ 9.5%
Total Present
Value
Less: Long-
Term Debt1
Plus: Excess
Cash Balances
0
Equity Value
2375.0
Outstanding
59.7
Equity Value Per
Share
39.8
Combined
Firms
($Millions)
Sales
5764.8
6251.1
6401.5
6770.5
7161.1
7574.7
8012.5
8476.1
Operating
Expenses
4659.5
5009.7
4732.3
5003.1
5289.7
5593.1
5914.1
6253.8
Synergy
25.0
100.0
200.0
200.0
200.0
200.0
EBIT
1105.3
1241.4
1694.3
1867.4
2071.4
2181.6
2298.4
2422.2
EBIT(1 – t)
663.2
744.8
1016.6
1120.4
1242.8
1309.0
1379.0
1453.3
Depreciation
347.6
387.5
400.4
423.6
448.2
474.2
501.7
530.9
Gross Plant &
Equipment
271.2
247.7
288.7
305.6
323.4
342.4
362.5
383.7
Change in
Working Capital
600.1
315.9
512.1
500.3
529.0
559.3
591.4
625.4
Free Cash Flow
to Firm
139.5
568.7
616.2
738.2
838.6
881.5
926.9
975.1
PV (2001–2005)
@ 9.5%
PV (Terminal
Value) @ 9.5%
Total PV
Less: Long-
Term Debt
Less:
Acquisition-
Related Debt
Plus: Excess
Cash Balances
Equity Value
16443.7
Equity Value Per
Share
43.9
Table 4. Offer Price Determination
Tribune
Times Mirror
Combined Incl.
Synergy
Value of Synergy
Equity Valuations
8501.5
2375.0
16443.7
5567.3
Minimum Offer
Price1
2805.9
Maximum Offer
Price
8373.2
Actual Offer Price
5671.4
% Maximum Offer
Price
Purchase Price
1.02
New Tribune Shares
Ownership
Distribution
TM Shareholders
0.37
Tribune
Shareholders
0.63
67.7%
Epilogue
Only time will tell if actual returns to shareholders in the combined Tribune and Times Mirror company exceed the
expected financial returns provided in the valuation models in this case study. Times Mirror shareholders earned a
substantial 102% purchase price premium over the value of their shares on the day the merger was announced. Some
portion of those undoubtedly “cashed out” of their investment following receipt of the new Tribune shares.
However, for those former Times Mirror shareholders continuing to hold their Tribune stock and for Tribune
shareholders of record on the day the transaction closed, it is unclear if the transaction made good economic sense.
Discussion Questions:
1. In your judgment, did it make good strategic sense to combine the Tribune and Times Mirror
corporations? Why? / Why not?
2. Using the Merger Evaluation table given in the case, determine the estimated equity values of Tribune,
Times Mirror and the combined firms. Why is long-term debt deducted from the total present value
estimates in order to obtain equity value?
3. Despite the merger having closed in mid-2000, the full effects of synergy are not expected until 2002.
Why? What factors could account for the delay?
4. The estimated equity value for the Times Mirror Corporation on the day the merger was announced was
about $2.8 billion. Moreover, as shown in the offer price evaluation table, the equity value estimated using
discounted cash flow analysis is given has $2.4 billion. Why is the minimum offer price shown as $2.8
billion rather than the lower $2.4 billion figure? How is the maximum offer price determined in the Offer
Price Evaluation Table? How much of the estimated synergy value generated by combining the two
businesses is being transferred to the Times Mirror shareholders? Why?
5. Does the Times Mirror-Tribune Corporation merger create value? If so, how much? What percentage of
this value goes to Times Mirror shareholders and what percentage to Tribune shareholders? Why?
Ford Acquires Volvo’s Passenger Car Operations
This case illustrates how the dynamically changing worldwide automotive market is spurring a move toward
consolidation among automotive manufacturers. The Volvo financials used in the valuation are for illustration
only— they include revenue and costs for all of the firm’s product lines. For purposes of exposition, we shall
assume that Ford’s acquisition strategy with respect to Volvo was to acquire all of Volvo’s operations and later to
divest all but the passenger car and possibly the truck operations. Note that synergy in this business case is
determined by valuing projected cash flows generated by combining the Ford and Volvo businesses rather than by
subtracting the standalone values for the Ford and Volvo passenger car operations from their combined value
including the effects of synergy. This was done because of the difficulty in obtaining sufficient data on the Ford
passenger car operations.
Background
By the late 1990s, excess global automotive production capacity totaled 20 million vehicles, and three-fourths of the
auto manufacturers worldwide were losing money. Consumers continued to demand more technological
innovations, while expecting to pay lower prices. Continuing mandates from regulators for new, cleaner engines and
more safety measures added to manufacturing costs. With the cost of designing a new car estimated at $1.5 billion to
$3 billion, companies were finding mergers and joint ventures an attractive means to distribute risk and maintain
market share in this highly competitive environment.
operating profits amounting to 3.7% of sales. Excluding the passenger car group, operating margins would have
been 5.3%. To stay competitive, Volvo would have to introduce a variety of new passenger cars over the next
decade. Volvo viewed the capital expenditures required to develop new cars as overwhelming for a company its
size.
Historical and Projected Data
The initial review of Volvo’s historical data suggests that cash flow is highly volatile. However, by removing
nonrecurring events, it is apparent that Volvo’s cash flow is steadily trending downward from its high in 1997. Table
<A>Table 9-10. Volvo Common-Size Normalized Income Statement, Balance Sheet, and Cash-Flow Statement (Percentage of Net Sales)<A>
1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
Income Statement
Net Sales 1.000 1.000 1.000 1.000 1.000 1.000 1.000 1.000 1.000 1.000 1.000 1.000
Cost of Goods Sold .772 .738 .749 .777 .757 .757 .757 .757 .757 .757 .757 .757
Operation Expense .167 .101 .120 .077 .119 .133 .132 .131 .129 .128 .127 .126
Depreciation .034 .033 .033 .034 .029 .038 .038 .039 .040 .040 .041 .042
EBIT .027 .128 .098 .112 .088 .073 .073 .074 .074 .074 .075 .075
Interest on Debt .050 .023 .022 .021 .015 .023 .023 .022 .021 .021 .020 .020
Earnings Before Taxes .024 .017 .076 .091 .072 .049 .051 .052 .053 .054 .055 .056
Income Taxes .004 .018 .022 .012 .015 .014 .014 .015 .015 .015 .015 .016
Net Income .028 .087 .054 .079 .057 .035 .036 .037 .038 .039 .040 .040
Determining the Initial Offer Price
Volvo’s estimated value on a standalone basis is $15 billion. The present value of anticipated synergy is $1.1 billion, suggesting that
the purchase price for Volvo should lie within a range of $15 million to about $16 billion. Although potential synergies appear to be
substantial, savings due to synergies will be phased in gradually between 2000 and 2004. The absence of other current bidders for the
entire company and Volvo’s urgent need to fund future capital expenditures in the passenger car business enabled Ford to set the
initial offer price at the lower end of the range. Thus, the initial offer price could be conservatively set at about $15.25 billion,
reflecting only about one-fourth of the total potential synergy resulting from combining the two businesses. Other valuation
methodologies tended to confirm this purchase price estimate. The market value of Volvo was $11.9 billion on January 29, 1999. To
gain a controlling interest, Ford had to pay a premium to the market value on January 29, 1999. Applying the 26% premium Ford paid
for Jaguar, the estimated purchase price including the premium is $15 billion, or $34 per share. This compares to $34.50 per share
estimated by dividing the initial offer price of $15.25 billion by Volvo’s total common shares outstanding of 442 million.
Determining the Appropriate Financing Structure
Epilogue
Seven months after the megamerger between Chrysler and Daimler-Benz in 1998, Ford Motor Company announced that it was
acquiring only Volvo’s passenger–car operations. Ford acquired Volvo’s passenger car operations on March 29, 1999, for $6.45
billion. At $16,000 per production unit, Ford’s offer price was considered generous when compared with the $13,400 per vehicle that
Daimler-Benz AG paid for Chrysler Corporation in 1998. The sale of the passenger car business allows Volvo to concentrate fully on
its truck, bus, construction equipment, marine engine, and aerospace equipment businesses. (Note that the standalone value of Volvo
in the case was estimated to be $15 billion. This included Volvo’s trucking operations.)
Discussion Questions and Answers:
1. What is the purpose of the common-size financial statements developed for Volvo (see Table 8–8 in the textbook)? What
insights does this table provide about the historical trend in Volvo’s historical performance? Based on past performance,
how realistic do you think the projections are for 2000-2004?
2. Ford anticipates substantial synergies from acquiring Volvo. What are these potential synergies? As a consultant hired to
value Volvo, what additional information would you need to estimate the value of potential synergy from each of these areas?
3. How was the initial offer price determined according to this case study? Do you find the logic underlying the initial offer
price compelling? Explain your answer.
4. What was the composition of the purchase price? Why was this composition selected according to this case study?