It is easy to differentiate between political and economic risks, since they are generally
unrelated. True or False
Answer:
So-called permanent financing for an acquisition usually consists of long-term
unsecured debt. True or False
Answer:
So-called Morris Trust transactions tax code rules restrict how certain types of
corporate deals can be structured to avoid taxes. True or False
Answer:
Smaller creditors have little incentive to attempt to hold up the agreement unless they
receive special treatment.
Answer:
In the U.S., the Federal Trade Commission has the exclusive right to approve mergers
and acquisitions if they are determined to be potentially anti-competitive. True or False
Answer:
A disadvantage of a split-off is that they tend to increase the pressure on the spun-off
firm’s share price, because shareholders who exchange their stock are more likely to sell
the new stock. True or False
Answer:
The term capitalization refers to the conversion of a future income stream into a present
value, and it is a term often used by business appraisers when future income or cash
flows are not expected to grow or to grow at a constant rate. True or False
Answer:
A firm’s core competencies refer to those skills which are required to produce the firm’s
primary products but which have little or no application in producing related products.
True or False
Answer:
The justification for the adjusted present value (APV) method reflects the theoretical
notion that firm value should not be affected by the way in which it is financed.
However, recent studies empirical suggest that for LBOs, the availability and cost of
financing does indeed impact financing and investment decisions. True or False
Answer:
The empirical evidence shows that unrelated diversification is an effective means of
smoothing out the business cycle. True or False
Answer:
Valuing the assets separately in terms of what it would cost to replace them may
seriously overstate the firm’s true going concern value. True or False
Answer:
Empirical studies show that the business alliance announcements seldom have any
impact on the market value of their parent firms. True or False
Answer:
A standstill agreement is one in which the target firm agrees not to solicit bids from
other potential buyers while it is negotiating with the first bidder. True or False
Answer:
Private firms are likely to understate revenue and understate costs in order to minimize
their tax liabilities. True or False
Answer:
It is rarely useful to review more than one or two years of historical data for the
acquiring or target firms. True or False
Answer:
As part of a Chapter 15 proceeding, the U.S. bankruptcy court may authorize a trustee
to act in a foreign country on behalf of the U.S. Bankruptcy Court. True or False
Answer:
Financial ratio analysis is the calculation of performance ratios from data in a
company’s financial statements to identify the firm’s financial strengths and
weaknesses. True or False
Answer:
The major disadvantages of a sub-chapter S corporation are that the number of
shareholders is limited, corporate shareholders are excluded, it must distribute all of its
earnings, the liability of shareholders is limited, and it can issue only one class of stock.
True or False
Answer:
Restructuring actions may provide tax benefits that cannot be realized without
undertaking a restructuring of the business. True or False
Answer:
Real options, also called strategic management options, refer to management’s ability to
adopt and later revise corporate investment decisions. True or False
Answer:
When cash flow is temporarily depressed due to strikes, litigation, warranty claims, or
other one-time events, it is generally safe to assume that cash flow will recover in the
near term. True or False
Answer:
The actual purchase price paid for a target firm is determined doing the negotiation
process and is often quite different from the initial offer price stipulated in a letter of
intent. True or False
Answer:
International transactions tend to be highly challenging, as they typically involve
multiple tax and legal jurisdictions. True or False
Answer:
The purchase price may be fixed at the time of closing, subject to future adjustment, or
it may be contingent on future performance of the target business. True or False
Answer:
The cost of capital method attempts to adjust future cash flows for changes in the cost
of capital as the firm reduces its outstanding debt. True or False
Answer:
Many analysts use the cost of capital method because of its relative simplicity. True or
False
Answer:
Potential competitors include firms (both domestic and foreign) in the current market,
those in related markets, current customers, and current suppliers. True or False
Answer:
Family owned businesses account for about 89% of all businesses in the U.S. True or
False
Answer:
Membership or subscription businesses, such as health clubs and magazine publishers,
may inflate revenue by booking the full value of muliyear contracts in the first year of
the contract. True or False
Answer:
A firm should choose that strategy from among the range of reasonable alternatives that
enables it to achieve its stated objectives in an acceptable time period without regard for
resource constraints. True or False
Answer:
Prepackaged bankruptcies are less common today than in years past. True or False
Answer:
Foreign competitors are not relevant to antitrust regulators when trying to determine if a
merger of two domestic firms would create excessive pricing power. True or False
Answer:
In emerging countries where financial statements may be haphazard and gaining access
to the information necessary to adequately assess risk is limited, it may be impossible to
perform an adequate due diligence. Under these circumstances, acquirers may protect
themselves by including a put option in the agreement of purchase and sale. Such an
option would enable the buyer to require the seller to repurchase shares from the buyer
at a predetermined price under certain circumstances. True or False
Answer:
With the purchase of target stock, the acquirer retains the target’s tax attributes, but
there is no step up in the basis of the acquired assets unless the acquirer adopts a 338
election. True or False
Answer:
Because the firm’s cost of equity changes over time, the firm’s cumulative cost of equity
is used to discount projected cash flows. This reflects the fact that each period’s cash
flows generate a different rate of return. True or False
Answer:
Parent firms with a high tax basis in a business may choose to spin-off the unit as a
tax-free distribution to shareholders rather than sell the business and incur a substantial
tax liability. True or False
Answer:
An excessively long list of screening criteria used to develop a list of potential
acquisition targets can severely limit the number of potential candidates. True or False
Answer:
In a merger, the acquiring firm assumes all liabilities of the target firm. Assumed
liabilities include all but which of the following?
a. Current liabilities
b. Long-term debt
c. Warranty claims
d. Fully depreciated operating equipment
e. Off-balance sheet liabilities
Answer:
All of the following are often cited as factors critical to the ultimate success of the
integration effort except for
a. Plan carefully, act quickly
b. The use of project management techniques
c. Early communication from the top of the organization
d. Salary and benefit reductions for many employees of the acquired company in order
to realize cost savings
e. Making the tough decisions as early as possible
Answer:
Which of the following are true about the Sherman Antitrust Act?
a. Prohibits business combinations that result in monopolies.
b. Prohibits business combinations resulting in a significant increase in the pricing
power of a single firm.
c. Makes illegal all contracts unreasonably restraining trade.
d. A and C only
e. A, B, and C
Answer:
To determine which strategy to pursue, the failing firm’s management needs to
estimate which of the following:
a. Going concern value
b. Liquidation value
c. Selling price of the firm
d. A and B only
e. A, B, and C
Answer:
Acquiring Corp agrees to buy 100% of the outstanding shares of Target Corp in a
share for share exchange. How would Acquiring Corp determine how many new share
of its
stock it would have to issue?
a. Multiply the purchase price premium paid for Target’s stock by the number of shares
of target stock outstanding.
b. Multiply the share exchange ratio by the number of Acquirer shares outstanding.
c. Add the number of Acquirer and Target shares outstanding
d. Multiply the share exchange ratio by the number of Target shares outstanding.
e. Divide the share exchange ratio by the purchase price premium
Answer:
Restaurant chain, Camin Holdings, acquired all of the assets and liabilities of
Cheesecakes R Us. The
combined firm is known as Camin Holdings and Cheesecakes R Us no longer exists as
a separate entity. The
acquisition is best described as a:
a. Merger
b. Consolidation
c. Tender offer
d. Spinoff
e. Divestiture
Answer:
Which is true of the following? A white knight
a. Is a group of dissident shareholders which side with the bidding firm
b. Is a group of the target firm’s current shareholders which side with management
c. Is a third party that is willing to acquire the target firm at the same price as the bidder
but usually removes the target’s management
d. Is a firm which is viewed by management as a more appropriate suitor than the
bidder
e. Is a firm that is willing to acquire only a large block of stock in the target firm
Answer:
Which of the following are not true of net operating loss carrybacks and carryforwards?
a. Net operating loss carrybacks enable firms to recover previous taxes paid.
b. Net operating loss carryforwards enable firms to shelter future taxable income.
c. Net operating loss carryforwards may be applied to income up to 5 years into the
future..
d. Loss corporations” cannot use a net operating loss carry forward unless they remain
viable and in essentially the same business for at least 2 years following the closing of
the acquisition.
e. None of the above
Answer:
In a tender offer, which of the following is true?
a. Both acquiring and target firms are required to disclose their intentions to the SEC
b. The target’s management cannot advise its shareholders how to respond to a tender
offer until has disclosed certain information to the SEC
c. Information must be disclosed only to the SEC and not to the exchanges on which the
target’s shares are traded
d. A and B
e. A, B, and C
Answer:
SABMiller in Joint Venture with Molson Coors
On October 10, 2007, SABMiller (SAB) and Molson Coors (Coors) agreed to combine
their U.S. brewing operations into a joint venture corporation. The stated objective was
to create a rival capable of competing with Anheuser-Busch, the maker of Budweiser
beer. SAB and Coors, the second and third largest breweries, respectively, in the United
States in terms of market share, have equal voting rights in the newly formed entity.
Each firm has five representatives on the board. In terms of ownership, SAB, the larger
of the two in terms of sales and profits, has a 58-percent stake and Coors a 42-percent
position. The combined operation, named MillerCoors, has about a 30 percent market
share versus Anheuser’s 48 percent. Leo Kiely, chief executive at Coors, became the
chief executive officer of MillerCoors and Tom Long, head of the SAB business in the
United States, became the president and chief commercial officer. Peter Coors, vice
chairman of Coors, was tapped as the chairman and Graham Mackey, SAB’s chief
executive officer, the vice chairman of MillerCoors. Both Coors and SAB continue to
operate separate global businesses.
From its roots in South Africa, the former SAB PLC grew rapidly over the previous
decade by expanding into fast growing economies such as China, Eastern Europe, and
Latin America. SAB acquired Miller Brewing Company in 2002, but the U.S. business
failed to gain significant market share in competing with Anheuser-Busch’s pervasive
brand awareness and distribution strength. Molson Coors was formed by the 2005
merger of Colorado’s Adolph Coors Co. and Canada’s Molson Inc., both
family-controlled companies. The families were unwilling to sell their entire companies
to another firm. The JV allows them to keep some control. Molson Coors, with dual
headquarters in Montreal and Denver, has major operations in Canada and Britain that
would remain independent of SABMiller. Reflecting its larger market share, brand
recognition, and negotiating clout with distributors, Anheuser-Busch has operating
profit margins of 23 percent, double SAB’s or Coors’s margins. SAB is larger in terms
of both revenue and profit than Coors.
The major U.S. breweries have been experiencing growing competition from wine,
specialty beers, spirits, and imported beers. Spirits companies have raised the pressure
on beer giants to merge by rolling out sweet cocktails and other drinks to lure younger
consumers. Premixed bottled drinks such as Smirnoff Ice have seen sales triple in the
last decade. The U.S. beer market is largely mature, with consumption growing at an
annual rate of about 1.5 percent.
MillerCoors anticipated annual cost savings to reach $500 million by the third year of
operation and be accretive for both parent firms by the second full year of combined
operations. The cost savings result from streamlining production, reducing shipping
distances between plants and distribution sites, and cutting corporate staff. Shipping
costs represent a significant cost, given the nature of the product. By producing both
firms’ products in the eight plants geographically distributed across the Midwestern and
western United States, MillerCoors should realize significant savings in meeting
customer demand for both products in the immediate proximity of each plant.
SAB and Coors hope to become one-stop shops for distributors, allowing them to save
time and money by dealing with one company instead of two. About 60 percent of
Miller’s volume is distributed by wholesalers also selling Molson Coors brands. U.S.
federal law dating back to the repeal of prohibition requires beer to be sold in many
states through wholesalers. The resulting savings to distributors could increase
MillerCoors overall market share.
By combining their U.S. advertising budgets, MillerCoors expects to have more clout at
the bargaining table with U.S. media outlets, enabling the combined firm to get lower
prices and better sports marketing deals. Such deals are viewed as critical to marketing
beer in the United States. MillerCoors will find it easier to negotiate for better
placement for its ads and compete more effectively for ad rights to major sporting
events. The two firms are also geographically complementary. Miller is strong in the
Midwest, while Coors has large market share in the West.
Immediately following the joint venture announcement, Anheuser-Busch’s CEO August
A. Busch IV said in a message to employees that the brewer must capitalize on the
significant transition confusion he predicted would occur when Miller and Molson
Coors blend their U.S. operations. Such confusion, he predicted, would create great
concern within the SABMiller/Coors field sales and wholesale organizations, as people
attempt to determine if they will have a role in this new structure.
Discussion Questions:
1) What tactics do you think Anheuser might employ to exploit the predicted confusion
during the integration of the SABMiller and Coors operations?
2) How did the combination of the U.S. operations of SABMiller and MolsonCoors
meet the needs of the two parties? Why was a JV viewed as preferable to a merger of
the two firm’s global operations?
3) How do you believe the ownership distribution for MillersCoors was determined?
4) Why do you believe that SAB and Coors agreed to equal board representation and
voting rights in the new JV? What types of governance issues might arise in view of the
governance structure of MillersCoors? What mechanisms might have been put in place
by the partners prior to closing to resolve possible governance issues? Be specific.
Answer:
Post-closing integration may be viewed in terms of a process consisting of the
following activities
a. Integration planning
b. Developing communication plans
c. Creating a new organization
d. Developing staffing plans
e. All of the above
Answer:
The management team of a privately held firm found a lender who would lend them 90
percent of the purchase price of the firm if they pledged the firm’s assets as well as their
personal assets as collateral for the loan. This purchase would best be described by
which of the following terms?
a. Merger
b. Leveraged buyout
c. Joint venture
d. Tender offer
e. Consolidation
Answer:
Teva Pharmaceuticals Buys Ivax Corporation
Teva Pharmaceutical Industries’, a manufacturer and distributor of generic drugs,
takeover of Ivax Corp for $7.4 billion created the world’s largest manufacturer of
generic drugs. For Teva, based in Israel, and Ivax, headquartered in Miami, the merger
eliminated a large competitor and created a distribution chain that spans 50 countries.
To broaden the appeal of the proposed merger, Teva offered Ivax shareholders the
option to receive for each of their shares either 0.8471 of American depository receipts
(ADRs) representing Teva shares or $26 in cash. ADRs represent the receipt given to
U.S. investors for the shares of a foreign-based corporation held in the vault of a U.S.
bank. Ivax shareholders wanting immediate liquidity chose to exchange their shares for
cash, while those wanting to participate in future appreciation of Teva stock exchanged
their shares for Teva shares.
At closing, each outstanding share of Ivax common stock was cancelled. Each
cancelled share represented the right to receive either of these two previously
mentioned payment options. The merger agreement also provided for the acquisition of
Ivax by Teva through a merger of Merger Sub, a newly formed and wholly-owned
subsidiary of Teva, into Ivax. As the surviving corporation, Ivax would be a
wholly-owned subsidiary of Teva. The merger involving the exchange of Teva ADRs
for Ivax shares was considered as tax-free for those Ivax shareholders receiving Teva
stock under U.S. law as it consisted of predominately acquirer shares.
Case Study. JDS UniphaseSDL Merger Results in Huge Write-Off
What started out as the biggest technology merger in history up to that point saw its
value plummet in line with the declining stock market, a weakening economy, and
concerns about the cash-flow impact of actions the acquirer would have to take to gain
regulatory approval. The $41 billion mega-merger, proposed on July 10, 2000,
consisted of JDS Uniphase (JDSU) offering 3.8 shares of its stock for each share of
SDL’s outstanding stock. This constituted an approximate 43% premium over the price
of SDL’s stock on the announcement date. The challenge facing JDSU was to get
Department of Justice (DoJ) approval of a merger that some feared would result in a
supplier (i.e., JDS UniphaseSDL) that could exercise enormous pricing power over the
entire range of products from raw components to packaged products purchased by
equipment manufacturers. The resulting regulatory review lengthened the period
between the signing of the merger agreement between the two companies and the actual
closing to more than 7 months. The risk to SDL shareholders of the lengthening of the
time between the determination of value and the actual receipt of the JDSU shares at
closing was that the JDSU shares could decline in price during this period.
Given the size of the premium, JDSU’s management was unwilling to protect SDL’s
shareholders from this possibility by providing a “collar” within which the exchange
ratio could fluctuate. The absence of a collar proved particularly devastating to SDL
shareholders, which continued to hold JDSU stock well beyond the closing date. The
deal that had been originally valued at $41 billion when first announced more than 7
months earlier had fallen to $13.5 billion on the day of closing.
JDSU manufactures and distributes fiber-optic components and modules to
telecommunication and cable systems providers worldwide. The company is the
dominant supplier in its market for fiber-optic components. In 1999, the firm focused
on making only certain subsystems needed in fiber-optic networks, but a flurry of
acquisitions has enabled the company to offer complementary products. JDSU’s
strategy is to package entire systems into a single integrated unit. This would reduce the
number of vendors that fiber optic network firms must deal with when purchasing
systems that produce the light that is transmitted over fiber. SDL’s products, including
pump lasers, support the transmission of data, voice, video, and internet information
over fiber-optic networks by expanding their fiber-optic communications networks
much more quickly and efficiently than would be possible using conventional electronic
and optical technologies. SDL had approximately 1700 employees and reported sales of
$72 million for the quarter ending March 31, 2000.
As of July 10, 2000, JDSU had a market value of $74 billion with 958 million shares
outstanding. Annual 2000 revenues amounted to $1.43 billion. The firm had $800
million in cash and virtually no long-term debt. Including one-time merger-related
charges, the firm recorded a loss of $905 million. With its price-to-earnings (excluding
merger-related charges) ratio at a meteoric 440, the firm sought to use stock to acquire
SDL, a strategy that it had used successfully in eleven previous acquisitions. JDSU
believed that a merger with SDL would provide two major benefits. First, it would add
a line of lasers to the JDSU product offering that strengthened signals beamed across
fiber-optic networks. Second, it would bolster JDSU’s capacity to package multiple
components into a single product line.
Regulators expressed concern that the combined entities could control the market for a
specific type of pump laser used in a wide range of optical equipment. SDL is one of
the largest suppliers of this type of laser, and JDS is one of the largest suppliers of the
chips used to build them. Other manufacturers of pump lasers, such as Nortel Networks,
Lucent Technologies, and Corning, complained to regulators that they would have to
buy some of the chips necessary to manufacture pump lasers from a supplier (i.e.,
JDSU), which in combination with SDL, also would be a competitor.
As required by the HartScottRodino (HSR) Antitrust Improvements Act of 1976, JDSU
had filed with the DoJ seeking regulatory approval. On August 24 th, the firm received
a request for additional information from the DoJ, which extended the HSR waiting
period. On February 6, JDSU agreed as part of a consent decree to sell a Swiss
subsidiary, which manufactures pump laser chips, to Nortel Networks Corporation, a
JDSU customer, to satisfy DoJ concerns about the proposed merger. The divestiture of
this operation set up an alternative supplier of such chips, thereby alleviating concerns
expressed by other manufacturers of pump lasers that they would have to buy such
components from a competitor.
On July 9, 2000, the boards of both JDSU and SDL unanimously approved an
agreement to merge SDL with a newly formed, wholly owned subsidiary of JDS
Uniphase, K2 Acquisition, Inc. K2 Acquisition, Inc. was created by JDSU as the
acquisition vehicle to complete the merger. In a reverse triangular merger, K2
Acquisition Inc. was merged into SDL, with SDL as the surviving entity. The
post-closing organization consisted of SDL as a wholly owned subsidiary of JDS
Uniphase. The form of payment consisted of exchanging JDSU common stock for SDL
common shares. The share exchange ratio was 3.8 shares of JDSU stock for each SDL
common share outstanding. Instead of a fraction of a share, each SDL stockholder
received cash, without interest, equal to dollar value of the fractional share at the
average of the closing prices for a share of JDSU common stock for the 5 trading days
before the completion of the merger.
Under the rules of the NASDAQ National Market, on which JDSU’s shares are traded,
JDSU is required to seek stockholder approval for any issuance of common stock to
acquire another firm. This requirement is triggered if the amount issued exceeds 20% of
its issued and outstanding shares of common stock and of its voting power. In
connection with the merger, both SDL and JDSU received fairness opinions from
advisors employed by the firms.
The merger agreement specified that the merger could be consummated when all of the
conditions stipulated in the agreement were either satisfied or waived by the parties to
the agreement. Both JDSU and SDL were subject to certain closing conditions. Such
conditions were specified in the September 7, 2000 S4 filing with the SEC by JDSU,
which is required whenever a firm intends to issue securities to the public. The
consummation of the merger was to be subject to approval by the shareholders of both
companies, the approval of the regulatory authorities as specified under the HSR, and
any other foreign antitrust law that applied. For both parties, representations and
warranties (statements believed to be factual) must have been found to be accurate and
both parties must have complied with all of the agreements and covenants (promises) in
all material ways.
The following are just a few examples of the 18 closing conditions found in the merger
agreement. The merger is structured so that JDSU and SDL’s shareholders will not
recognize a gain or loss for U.S. federal income tax purposes in the merger, except for
taxes payable because of cash received by SDL shareholders for fractional shares. Both
JDSU and SDL must receive opinions of tax counsel that the merger will qualify as a
tax-free reorganization (tax structure). This also is stipulated as a closing condition. If
the merger agreement is terminated as a result of an acquisition of SDL by another firm
within 12 months of the termination, SDL may be required to pay JDSU a termination
fee of $1 billion. Such a fee is intended to cover JDSU’s expenses incurred as a result of
the transaction and to discourage any third parties from making a bid for the target firm.
Despite dramatic cost-cutting efforts, the company reported a loss of $7.9 billion for the
quarter ending June 31, 2001 and $50.6 billion for the 12 months ending June 31, 2001.
This compares to the projected pro forma loss reported in the September 9, 2000 S4
filing of $12.1 billion. The actual loss was the largest annual loss ever reported by a
U.S. firm up to that time. The fiscal year 2000 loss included a reduction in the value of
goodwill carried on the balance sheet of $38.7 billion to reflect the declining market
value of net assets acquired during a series of previous transactions. Most of this
reduction was related to goodwill arising from the merger of JDS FITEL and Uniphase
and the subsequent acquisitions of SDL, E-TEK, and OCLI..
The stock continued to tumble in line with the declining fortunes of the
telecommunications industry such that it was trading as low as $7.5 per share by
mid-2001, about 6% of its value the day the merger with SDL was announced. Thus, the
JDS UniphaseSDL merger was marked by two firststhe largest purchase price paid for a
pure technology company and the largest write-off (at that time) in history. Both of
these infamous “firsts” occurred within 12 months.
Case Study Discussion Questions
1) What is goodwill? How is it estimated? Why did JDS Uniphase write down the value
of its goodwill in 2001? Why does this reflect a series of poor management decisions
with respect to mergers completed between 1999 and early 2001?
2) How might the use of stock, as an acquisition “currency,” have contributed to the
sustained decline in JDS Uniphase’s stock through mid-2001? In your judgment what is
the likely impact of the glut of JDS Uniphase shares in the market on the future
appreciation of the firm’s share price? Explain your answer.
3) What are the primary differences between a forward and a reverse triangular merger?
Why might JDS Uniphase have chosen to merge its K2 Acquisition Inc. subsidiary with
SDL in a reverse triangular merger? Explain your answer.
4) Discuss various methodologies you might use to value assets acquired from SDL
such as existing technologies, “core” technologies, trademarks and trade names,
assembled workforce, and deferred compensation?
5) Why do boards of directors of both acquiring and target companies often obtain
so-called “fairness opinions” from outside investment advisors or accounting firms?
What valuation methodologies might be employed in constructing these opinions?
Should stockholders have confidence in such opinions? Why/why not?
Answer:
Which of the following is not true about the primary responsibilities of the management
integration team (MIT)?
a. The MIT should direct the daily operations of the individual work teams set up to
implement certain activities.
b. Focus the organization on meeting ongoing business commitments and operational
performance targets
c. The creation of an early warning system to determine when performance targets are
likely to be missed.
d. Establish a rigorous communication program
e. Establishing a master schedule of what should be done by whom and by what date.
Answer:
Limitations in applying the comparable companies’ method of valuation include which
of the following?
a. Finding truly comparable companies is difficult
b. The use of market-based methods can result in significant under- or overvaluation
during periods of declining or rising stock markets
c. Market-based methods can be manipulated easily, because the methods do not require
a clear statement of assumptions with respect to risk, growth, or the timing or
magnitude of future earnings and cash flows.
a. A, B, & C
b. A & B only
Answer:
In selecting an appropriate business strategy, all of the following are relevant questions
except for
a. Does the firm have sufficient resources to implement the strategy?
b. Have all reasonable alternatives available for implementing the strategy been
evaluated?
c. What are the key assumptions underlying the various strategic options under
consideration?
d. What do the firm’s targeted customers primarily consider in making purchasing
decisions?
e. Why might an acquisition be preferred to a joint venture in implementing the
business strategy?
Answer:
Which of the following is among the least regulated industries in the U.S.?
a. Defenses
b. Communications
c. Retailing
d. Public utilities
e. Banking
Answer:
Which of the following is generally not a motive for firms to expand internationally?
a. Desire to achieve geographic diversification
b. Desire to accelerate growth
c. Desire to consolidate industries
d. Desire to avoid entry barriers
e. Desire to enter countries with less favorable tax rates
Answer:
Which of the following are commonly used sources of funding for leveraged buyouts?
a. Secured debt
b. Unsecured debt
c. Preferred stock
d. Seller financing
e. All of the above
Answer:
Which of the following is true of collar arrangements?
a. A fixed or constant share exchange ratiois one in which the number of acquirer shares
exchanged for each target share is unchanged between the signing of the agreement of
purchase and sale and closing.
b. Collar agreements provide for certain changes in the exchange ratio contingent on the
level of the acquirer’s share price around the effective date of the merger.
c. A fixed exchange collar agreement may involve a fixed exchange ratio as long as the
acquirer’s share price remains within a narrow range, calculated as of the effective date
of merger.
d. A fixed payment collar agreement guarantees that the target firm shareholder receives
a certain dollar value in terms of acquirer stock as long as the acquirer’s stock remains
within a narrow range, and a fixed exchange ratio if the acquirer’s average stock price is
outside the bounds around the effective date of the merger.
e. All of the above.
Answer:
In valuing private businesses, the U.S. tax courts have historically supported the use of
which valuation method for purposes of estate valuation?
a. Discounted cash flow
b. Comparable company method
c. Tangible book value method
d. A combination of a and c
e. All of the above
Answer:
Which of the following are true of real options?
a. Real options give management the ability to delay the implementation of a strategy
b. Real options give management the ability to accelerate the implementation of a
strategy
c. Real options give management the ability to abandon a strategy
d. Real options represent the ability of management to change their strategy after the
strategy has beenmimplemented.
e. All of the above
Answer:
Methods of dividing ownership and control in business alliances may take which of the
following forms.
a. Majority-minority framework
b. Equal division of power framework
c. “Majority rules” framework
d. Multiple party framework
e. All of the above
Answer:
The control market is applicable when which of the following conditions are true?
a. Capital markets are illiquid
b. Equity ownership is heavily concentrated
c. Board members are largely insiders
d. Ownership and control overlap
e. All of the above
`
Answer:
Which of the following is not a motivation for establishing an alliance?
a. Risk sharing
b. Gaining access to new markets
c. Gaining access to a new technology
d. Achieving maximum control
e. Entering into a foreign market
Answer:
A business owner may overstate revenue and understate actual expenses when
a. The business is about to be sold
b. They are being audited by the IRS
c. They are trying to minimize tax liabilities
d. All of the above
e. None of the above
Answer:
Arbitrageurs often adopt which of the following strategies in a share for share exchange
just before or just after
a merger announcement?
a. Buy the target firm’s stock
b. Buy the target firm’s stock and sell the acquirer’s stock short
c. Buy the acquirer’s stock only
d. Sell the target’s stock short and buy the acquirer’s stock
e. Sell the target stock short
Answer:
A firm may be motivated to purchase another firm whenever
a. The cost to replace the target firm’s assets is less than its market value
b. The replacement cost of the target firm’s assets exceeds its market value
c. When the inflation rate is accelerating
d. The ratio of the target firm’s market value is more than twice its book value
e. The market to book ratio is greater than one and increasing
Answer:
Successfully integrated M&As are those that demonstrate leadership by candidly and
continuously communicating which of the following?
a. A clear vision
b. A set of values
c. Unambiguous priorities for each employee
d. A & B only
e. A, B, & C
Answer:
Which of the following factors contribute to the integration of the global capital
markets?
a. The reduction in trade barriers
b. The removal of capital controls
c. The harmonization of tax laws
d. Floating exchange rates
e. All of the above
Answer:
Buyer Consortium Wins Control of ABN Amro
The biggest banking deal on record was announced on October 9, 2007, resulting in the
dismemberment of one of Europe’s largest and oldest financial services firms, ABN
Amro (ABN). A buyer consortium consisting of The Royal Bank of Scotland (RBS),
Spain’s Banco Santander (Santander), and Belgium’s Fortis Bank (Fortis) won control
of ABN, the largest bank in the Netherlands, in a buyout valued at $101 billion.
European banks had been under pressure to grow through acquisitions and compete
with larger American rivals to avoid becoming takeover targets themselves. ABN had
been viewed for years as a target because of its relatively low share price. However,
rival banks were deterred by its diverse mixture of businesses, which was unattractive
to any single buyer. Under pressure from shareholders, ABN announced that it had
agreed, on April 23, 2007, to be acquired by Barclay’s Bank of London for $85 billion
in stock. The RBS-led group countered with a $99 billion bid consisting mostly of cash.
In response, Barclay’s upped its bid by 6 percent with the help of state-backed investors
from China and Singapore. ABN’s management favored the Barclay bid because
Barclay had pledged to keep ABN intact and its headquarters in the Netherlands.
However, a declining stock market soon made Barclay’s mostly stock offer unattractive.
While the size of the transaction was noteworthy, the deal is especially remarkable in
that the consortium had agreed prior to the purchase to split up ABN among the three
participants. The mechanism used for acquiring the bank represented an unusual means
of completing big transactions amidst the subprime-mortgage-induced turmoil in the
global credit markets at the time. The members of the consortium were able to select the
ABN assets they found most attractive. The consortium agreed in advance of the
acquisition that Santander would receive ABN’s Brazilian and Italian units; Fortis
would obtain the Dutch bank’s consumer lending business, asset management, and
private banking operations, and RBS would own the Asian and investment banking
units. Merrill Lynch served as the sole investment advisor for the group’s participants.
Caught up in the global capital market meltdown, Fortis was forced to sell the ABN
Amro assets it had acquired to its Dutch competitor ING in October 2008.
Discussion Questions:
1) In your judgment, what are likely to be some of the major challenges in assembling a
buyer consortium to acquire and subsequently dismember a target firm such as ABN
Amro? In what way do you thing the use of a single investment advisor might have
addressed some of these issues?
2) The ABN Amro transaction was completed at a time when the availability of credit
was limited due to the sub-prime mortgage loan problem originating in the United
States. How might the use of a group rather than a single buyer have facilitated the
purchase of ABN Amro?
3) The same outcome could have been achieved if a single buyer had reached
agreement with other banks to acquire selected pieces of ABN before completing the
transaction. The pieces could then have been sold at the closing. Why might the use of
the consortium been a superior alternative?
Answer:
Consolidation in the Wireless Communications Industry:
Vodafone Acquires AirTouch
.
Deregulation of the telecommunications industry has resulted in increased
consolidation. In Europe, rising competition is the catalyst driving mergers. In the
United States, the break up of AT&T in the mid-1980s and the subsequent deregulation
of the industry has led to key alliances, JVs, and mergers, which have created cellular
powerhouses capable of providing nationwide coverage. Such coverage is being
achieved by roaming agreements between carriers and acquisitions by other carriers.
Although competition has been heightened as a result of deregulation, the
telecommunications industry continues to be characterized by substantial barriers to
entry. These include the requirement to obtain licenses and the need for an extensive
network infrastructure. Wireless communications continue to grow largely at the
expense of traditional landline services as cellular service pricing continues to decrease.
Although the market is likely to continue to grow rapidly, success is expected to go to
those with the financial muscle to satisfy increasingly sophisticated customer demands.
What follows is a brief discussion of the motivations for the merger between Vodafone
and AirTouch Communications. This discussion includes a description of the key
elements of the deal structure that made the Vodafone offer more attractive than a
competing offer from Bell Atlantic.
Vodafone
Company History
Vodafone is a wireless communications company based in the United Kingdom. The
company is located in 13 countries in Europe, Africa, and Australia/New Zealand.
Vodafone reaches more than 9.5 million subscribers. It has been the market leader in the
United Kingdom since 1986 and as of 1998 had more than 5 million subscribers in the
United Kingdom alone. The company has been very successful at marketing and selling
prepaid services in Europe. Vodafone also is involved in a venture called Globalstar, LP,
a limited partnership with Loral Space and Communications and Qualcomm, a phone
manufacturer. “Globalstar will construct and operate a worldwide, satellite-based
communications system offering global mobile voice, fax, and data communications in
over 115 countries, covering over 85% of the world’s population”.
Strategic Intent
Vodafone’s focus is on global expansion. They are expanding through partnerships and
by purchasing licenses. Notably, Vodafone lacked a significant presence in the United
States, the largest mobile phone market in the world. For Vodafone to be considered a
truly global company, the firm needed a presence in the Unites States. Vodafone’s
strategy is focused on maintaining high growth levels in its markets and increasing
profitability; maintaining their current customer base; accelerating innovation; and
increasing their global presence through acquisitions, partnerships, or purchases of new
licenses. Vodafone’s current strategy calls for it to merge with a company with
substantial market share in the United States and Asia, which would fill several holes in
Vodafone’s current geographic coverage.
Company Structure
The company is very decentralized. The responsibilities of the corporate headquarters in
the United Kingdom lie in developing corporate strategic direction, compiling financial
information, reporting and developing relationships with the various stock markets, and
evaluating new expansion opportunities. The management of operations is left to the
countries’ management, assuming business plans and financial measures are being met.
They have a relatively flat management structure. All of their employees are
shareowners in the company. They have very low levels of employee turnover, and the
workforce averages 33 years of age.
AirTouch
Company History
AirTouch Communications launched it first cellular service network in 1984 in Los
Angeles during the opening ceremonies at the 1984 Olympics. The original company
was run under the name PacTel Cellular, a subsidiary of Pacific Telesis. In 1994, PacTel
Cellular spun off from Pacific Telesis and became AirTouch Communications, under the
direction of Chair and Chief Executive Officer Sam Ginn. Ginn believed that the most
exciting growth potential in telecommunications is in the wireless and not the landline
services segment of the industry. In 1998, AirTouch operated in 13 countries on three
continents, serving more than 12 million customers, as a worldwide carrier of cellular
services, personal communication services (PCS), and paging services. AirTouch has
chosen to compete on a global front through various partnerships and JVs. Recognizing
the massive growth potential outside the United States, AirTouch began their global
strategy immediately after the spin-off.
Strategic Intent
AirTouch has chosen to differentiate itself in its domestic regions based on the concept
of “Superior Service Delivery.” The company’s focus is on being available to its
customers 24 hours a day, 7 days a week and on delivering pricing options that meet the
customer’s needs. AirTouch allows customers to change pricing plans without penalty.
The company also emphasizes call clarity and quality and extensive geographic
coverage. The key challenges AirTouch faces on a global front is in reducing churn (i.e.,
the percentage of customers leaving), implementing improved digital technology,
managing pressure on service pricing, and maintaining profit margins by focusing on
cost reduction. Other challenges include creating a domestic national presence.
Company Structure
AirTouch is decentralized. Regions have been developed in the U.S. market and are run
autonomously with respect to pricing decisions, marketing campaigns, and customer
care operations. Each region is run as a profit center. Its European operations also are
run independently from each other to be able to respond to the competitive issues
unique to the specific countries. All employees are shareowners in the company, and the
average age of the workforce is in the low to mid-30s. Both companies are comparable
in terms of size and exhibit operating profit margins in the mid-to-high teens. AirTouch
has substantially less leverage than Vodafone.
Merger Highlights
Vodafone began exploratory talks with AirTouch as early as 1996 on a variety of
options ranging from partnerships to a merger. Merger talks continued informally until
late 1998 when they were formally broken off. Bell Atlantic, interested in expanding its
own mobile phone business’s geographic coverage, immediately jumped into the void
by proposing to AirTouch that together they form a new wireless company. In early
1999, Vodafone once again entered the fray, sparking a sharp takeover battle for
AirTouch. Vodafone emerged victorious by mid-1999.
Motivation for the Merger
Shared Vision
The merger would create a more competitive, global wireless telecommunications
company than either company could achieve separately. Moreover, both firms shared
the same vision of the telecommunications industry. Mobile telecommunications is
believed to be the among the fastest-growing segment of the telecommunications
industry, and over time mobile voice will replace large amounts of telecommunications
traffic carried by fixed-line networks and will serve as a major platform for voice and
data communication. Both companies believe that mobile penetration will reach 50% in
developed countries by 2003 and 55% and 65% in the United States and developed
European countries, respectively, by 2005.
Complementary Assets
Scale, operating strength, and complementary assets were given as compelling reasons
for the merger. The combination of AirTouch and Vodafone would create the largest
mobile telecommunication company at the time, with significant presence in the United
Kingdom, United States, continental Europe, and Asian Pacific region. The scale and
scope of the operations is expected to make the combined firms the vendor of choice for
business travelers and international corporations. Interests in operations in many
countries will make Vodafone AirTouch more attractive as a partner for other
international fixed and mobile telecommunications providers. The combined scale of
the companies also is expected to enhance its ability to develop existing networks and
to be in the forefront of providing technologically advanced products and services.
Synergy
Anticipated synergies include after-tax cost savings of $340 million annually by the
fiscal year ending March 31, 2002. The estimated net present value of these synergies is
$3.6 billion discounted at 9%. The cost savings arise from global purchasing and
operating efficiencies, including volume discounts, lower leased line costs, more
efficient voice and data networks, savings in development and purchase of
third-generation mobile handsets, infrastructure, and software. Revenues should be
enhanced through the provision of more international coverage and through the
bundling of services for corporate customers that operate as multinational businesses
and business travelers.
AirTouch’s Board Analyzes Options
Morgan Stanley, AirTouch’s investment banker, provided analyses of the current prices
of the Vodafone and Bell Atlantic stocks, their historical trading ranges, and the
anticipated trading prices of both companies’ stock on completion of the merger and on
redistribution of the stock to the general public. Both offers were structured so as to
constitute essentially tax-free reorganizations. The Vodafone proposal would qualify as
a Type A reorganization under the Internal Revenue Service Code; hence, it would be
tax-free, except for the cash portion of the offer, for U.S. holders of AirTouch common
and holders of preferred who converted their shares before the merger. The Bell Atlantic
offer would qualify as a Type B tax-free reorganization. Table 1 highlights the primary
characteristics of the form of payment (total consideration) of the two competing offers.
Morgan Stanley’s primary conclusions were as follows:
1)Bell Atlantic had a current market value of $83 per share of AirTouch stock based on
the $53.81 closing price of Bell Atlantic common stock on January 14, 1999. The collar
would maintain the price at $80.08 per share if the price of Bell Atlantic stock during a
specified period before closing were between $48 and $52 per share.
2) The Vodafone proposal had a current market value of $97 per share of AirTouch
stock based on Vodafone’s ordinary shares (i.e., common) on January 17, 1999.
3) Following the merger, the market value of the Vodafone American Depository Shares
(ADSs) to be received by AirTouch shareholders under the Vodafone proposal could
decrease.
4) Following the merger, the market value of Bell Atlantic’s stock also could decrease,
particularly in light of the expectation that the proposed transaction would dilute Bell
Atlantic’s EPS by more than 10% through 2002.
In addition to Vodafone’s higher value, the board tended to favor the Vodafone offer
because it involved less regulatory uncertainty. As U.S. corporations, a merger between
AirTouch and Bell Atlantic was likely to receive substantial scrutiny from the U.S.
Justice Department, the Federal Trade Commission, and the FCC. Moreover, although
both proposals could be completed tax-free, except for the small cash component of the
Vodafone offer, the Vodafone offer was not subject to achieving any specific accounting
treatment such as pooling of interests under U.S. generally accepted accounting
principles (GAAP).
Recognizing their fiduciary responsibility to review all legitimate offers in a balanced
manner, the AirTouch board also considered a number of factors that made the
Vodafone proposal less attractive. The failure to do so would no doubt trigger
shareholder lawsuits. The major factors that detracted from the Vodafone proposal were
that it would not result in a national presence in the United States, the higher volatility
of its stock, and the additional debt Vodafone would have to assume to pay the cash
portion of the purchase price. Despite these concerns, the higher offer price from
Vodafone (i.e., $97 to $83) won the day.
Acquisition Vehicle and Post Closing Organization
In the merger, AirTouch became a wholly owned subsidiary of Vodafone. Vodafone
issued common shares valued at $52.4 billion based on the closing Vodafone ADS on
April 20, 1999. In addition, Vodafone paid AirTouch shareholders $5.5 billion in cash.
On completion of the merger, Vodafone changed its name to Vodafone AirTouch Public
Limited Company. Vodafone created a wholly owned subsidiary, Appollo Merger
Incorporated, as the acquisition vehicle. Using a reverse triangular merger, Appollo
was merged into AirTouch. AirTouch constituted the surviving legal entity. AirTouch
shareholders received Vodafone voting stock and cash for their AirTouch shares. Both
the AirTouch and Appollo shares were canceled. After the merger, AirTouch
shareholders owned slightly less than 50% of the equity of the new company, Vodafone
AirTouch. By using the reverse merger to convey ownership of the AirTouch shares,
Vodafone was able to ensure that all FCC licenses and AirTouch franchise rights were
conveyed legally to Vodafone. However, Vodafone was unable to avoid seeking
shareholder approval using this method. Vodafone ADS’s traded on the New York Stock
Exchange (NYSE). Because the amount of new shares being issued exceeded 20% of
Vodafone’s outstanding voting stock, the NYSE required that Vodafone solicit its
shareholders for approval of the proposed merger.
Following this transaction, the highly aggressive Vodafone went on to consummate the
largest merger in history in 2000 by combining with Germany’s telecommunications
powerhouse, Mannesmann, for $180 billion. Including assumed debt, the total purchase
price paid by Vodafone AirTouch for Mannesmann soared to $198 billion. Vodafone
AirTouch was well on its way to establishing itself as a global cellular phone
powerhouse.
Discussion Questions:
1) Did the AirTouch board make the right decision? Why or why not?
2) How valid are the reasons for the proposed merger?
3) What are the potential risk factors related to the merger?
4) Is this merger likely to be tax free, partially tax free, or taxable? Explain your
answer.
5) What are some of the challenges the two companies are likely to face while
integrating the businesses?
Answer:
Arcelor Outbids ThyssenKrupp for Canada’s Dofasco Steelmaking Operations
Arcelor Steel of Luxembourg, the world’s second largest steel maker, was eager to make
an acquisition. Having been outbid by Mittal, the world’s leading steel firm, in its
efforts to buy Turkey’s state-owned Erdemir and Ukraine’s Kryvorizhstal, Guy Dolle,
Arcelor’s CEO, seemed determined not to let that happen again. Arcelor and Dofasco
had been in talks for more than four months before Arcelor decided to initiate a tender
offer on November 23, 2005, valued at $3.8 billion in cash. Dofasco, Canada’s largest
steel manufacturer, owned vast coal and iron ore reserves, possessed a nonunion
workforce, and sold much of its steel to Honda assembly plants in the United States.
The merger would enable Arcelor, whose revenues were concentrated primarily in
Europe, to diversify into the United States. Contrary to their European operations,
Arcelor found the flexibility offered by Dofasco’s nonunion labor force highly
attractive. Moreover, by increasing its share of global steel production, Arcelor’s
management reasoned that it would be able to exert additional pricing leverage with
both customers and suppliers.
Serving the role of “white knight,” Germany’s ThyssenKrupp, the sixth largest steel
firm in the world, offered to acquire Dofasco one week later for $4.1 billion in cash.
Dofasco’s board accepted the bid, which included a $187 million breakup fee should
another firm acquire Dofasco. Investors soundly criticized Dofasco’s board for not
opening up the bidding to an auction. In its defense, the board expressed concern about
stretching out the process in an auction over several weeks. In late December, Arcelor
topped the ThyssenKrupp bid by offering $4.2 billion. Not to be outdone,
ThyssenKrupp matched the Arcelor offer on January 4, 2006. The Dofasco board
reaffirmed its preference for the ThyssenKrupp bid, due to the breakup fee and
ThyssenKrupp’s willingness (unlike Arcelor) to allow Dofasco to continue to operate
under its own name and management.
In a bold attempt to put Dofasco out of reach of the already highly leveraged
ThyssenKrupp, Arcelor raised its bid to $4.8 billion on January 16, 2006. This bid
represented an approximate 80 percent premium over Dofasco’s closing share price on
the day Arcelor announced its original tender offer. The Arcelor bid was contingent on
Dofasco withdrawing its support for the ThyssenKrupp bid. On January 24, 2006,
ThyssenKrupp said it would not raise its bid. Events in the dynamically changing global
steel market were not to end here. The Arcelor board and management barely had time
to savor their successful takeover of Dofasco before Mittal initiated a hostile takeover
of Arcelor. Ironically, Mittal succeeded in acquiring its archrival, Arcelor, just six
months later in a bid to achieve further industry consolidation.
Discussion Questions and Answers:
1) What were the motives for Arcelor’s and ThyssenKrupp’s interest in Dofasco?
2) What do you think was the logic underlying Arcelor and ThyssenKrupp’s bidding
strategies? Be specific.
3) Why do you believe that Dofasco’s share price rose above ThyssenKrupp’s offer
price per share immediately following the announcement of the bid?
4) Why do you believe that Dofasco’s board was concerned about a lengthy auction
process?
discussion of the MittalArcelor transaction.
Answer:
Cox Enterprises Offers to Take Cox Communications Private
In an effort to take the firm private, Cox Enterprises announced on August 3, 2004 a
proposal to buy the remaining 38% of Cox Communications’ shares that they did not
currently own for $32 per share. Cox Communications is the third largest provider of
cable television, telecommunications, and wireless services in the U.S, serving more
than 6.2 million customers. Historically, the firm’s cash flow has been steady and
substantial.
The deal is valued at $7.9 billion and represented a 16% premium to Cox
Communication’s share price at that time. Cox Communications would become a
subsidiary of Cox Enterprises and would continue to operate as an autonomous
business. In response to the proposal, the Cox Communications Board of Directors
formed a special committee of independent directors to consider the proposal. Citigroup
Global Markets and Lehman Brothers Inc. have committed $10 billion to the deal. Cox
Enterprises would use $7.9 billion for the tender offer, with the remaining $2.1 billion
used for refinancing existing debt and to satisfy working capital requirements.
Cable service firms have faced intensified competitive pressures from satellite service
providers DirecTV Group and EchoStar communications. Moreover, telephone
companies continue to attack cable’s high-speed Internet service by cutting prices on
high-speed Internet service over phone lines. Cable firms have responded by offering a
broader range of advanced services like video-on-demand and phone service. Since
2000, the cable industry has invested more than $80 billion to upgrade their systems to
provide such services, causing profitability to deteriorate and frustrating investors. In
response, cable company stock prices have fallen. Cox Enterprises stated that the
increasingly competitive cable industry environment makes investment in the cable
industry best done through a private company structure.
Discussion Questions::
1) Why did the board feel that it was appropriate to set up special committee of
independent board directors?
2) Why does Cox Enterprises believe that the investment needed for growing its cable
business is best done through a private company structure?
Answer:
A Real Options’ Perspective on Microsoft’s Dealings with Yahoo
In a bold move to transform two relatively weak online search businesses into a
competitor capable of challenging market leader Google, Microsoft proposed to buy
Yahoo for $44.6 billion on February 2, At $31 per share in cash and stock, the offer
represented a 62 percent premium over Yahoo’s prior day closing price. Despite
boosting its bid to $33 per share to offset a decline in the value of Microsoft’s share
price following the initial offer, Microsoft was rebuffed by Yahoo’s board and
management. In early May, Microsoft withdrew its bid to buy the entire firm and
substituted an offer to acquire the search business only. Incensed at Yahoo’s refusal to
accept the Microsoft bid, activist shareholder Carl Icahn initiated an unsuccessful proxy
fight to replace the Yahoo board. Throughout this entire melodrama, critics continued to
ask how Microsoft could justify an offer valued at $44.6 billion when the market prior
to the announcement had valued Yahoo at only $27.5 billion.
Microsoft could have continued to slug it out with Yahoo and Google, as it has been for
the last five years, but this would have given Google more time to consolidate its
leadership position. Despite having spent billions of dollars on Microsoft’s online
service (Microsoft Network or MSN) in recent years, the business remains a money
loser (with losses exceeding one half billion dollars in 2007). Furthermore, MSN
accounted for only 5 percent of the firm’s total revenue at that time.
Microsoft argued that its share of the online Internet search (i.e., ads appearing with
search results) and display (i.e., website banner ads) advertising markets would be
dramatically increased by combining Yahoo with MSN. Yahoo also is the leading
consumer email service. Anticipated cost savings from combining the two businesses
were expected to reach $1 billion annually. Longer term, Microsoft expected to bundle
search and advertising capabilities into the Windows operating system to increase the
usage of the combined firms’ online services by offering compatible new products and
enhanced search capabilities.
The two firms have very different cultures. The iconic Silicon Valleybased Yahoo often
is characterized as a company with a free-wheeling, fun-loving culture, potentially
incompatible with Microsoft’s more structured and disciplined environment. Melding or
eliminating overlapping businesses represents a potentially mind-numbing effort given
the diversity and complexity of the numerous sites available. To achieve the projected
cost savings, Microsoft would have to choose which of the businesses and technologies
would survive. Moreover, the software driving all of these sites and services is largely
incompatible.
As an independent or stand-alone business, the market valued Yahoo at approximately
$17 billion less than Microsoft’s valuation. Microsoft was valuing Yahoo based on its
intrinsic stand-alone value plus perceived synergy resulting from combining Yahoo and
MSN. Standard discounted cash flow analysis assumes implicitly that, once Microsoft
makes an investment decision, it cannot change its mind. In reality, once an investment
decision is made, management often has a number of opportunities to make future
decisions based on the outcome of things that are currently uncertain. These
opportunities, or real options, include the decision to expand (i.e., accelerate investment
at a later date), delay the initial investment, or abandon an investment. With respect to
Microsoft’s effort to acquire Yahoo, the major uncertainties dealt with the actual timing
of an acquisition and whether the two businesses could be integrated successfully. For
Microsoft’s attempted takeover of Yahoo, such options included the following:
Base case. Buy 100 percent of Yahoo immediately.
Option to expand. If Yahoo were to accept the bid, accelerate investment in new
products and services contingent on the successful integration of Yahoo and MSN.
Option to delay. (1) Temporarily walk away keeping open the possibility of returning
for 100 percent of Yahoo if circumstances change, (2) offer to buy only the search
business with the intent of purchasing the remainder of Yahoo at a later date, or (3)
enter into a search partnership, with an option to buy at a later date.
Option to abandon. If Yahoo were to accept the bid, spin off or divest combined
Yahoo/MSN if integration is unsuccessful.
The decision tree in the following exhibit illustrates the range of real options (albeit an
incomplete list) available to the Microsoft board at that time. Each branch of the tree
represents a specific option. The decision-tree framework is helpful in depicting the
significant flexibility senior management often has in changing an existing investment
decision at some point in the future.
With neither party making headway against Google, Microsoft again approached Yahoo
in mid-2009, which resulted in an announcement in early 2010 of an internet search
agreement between the two firms. Yahoo transferred control of its internet search
technology to Microsoft in an attempt to boost its sagging profits. Microsoft is relying
on a 10-year arrangement with Yahoo to help counter the dominance of Google in the
internet search market. Both firms hope to be able to attract more advertising dollars
paid by firms willing to pay for links on the firms’ sites.
Option to expand contingent on successful integration of Yahoo and MSN
Purchase Yahoo online search only. Buy remaining businesses later.
Base Case: Microsoft offers to buy all outstanding share of Yahoo
Option to postpone contingent on Yahoo’s rejection of offer
Enter long-term search partnership with option to buy.
Offer revised price for all of Yahoo if circumstances change
Spin off combined Yahoo and MSN to Microsoft shareholders
Option to abandon contingent on failure to integrate Yahoo and MSN
Divest combined Yahoo and MSN. Use proceeds to pay dividend or buy back stock.
Microsoft Real Options Decision Tree
Merrill Lynch and BlackRock Agree to Swap Assets
During the 1990s, many financial services companies began offering mutual funds to
their current customers who were pouring money into the then booming stock market.
Hoping to become financial supermarkets offering an array of financial services to their
customers, these firms offered mutual funds under their own brand name. The
proliferation of mutual funds made it more difficult to be noticed by potential customers
and required the firms to boost substantially advertising expenditures at a time when
increased competition was reducing mutual fund management fees. In addition,
potential customers were concerned that brokers would promote their own firm’s mutual
funds to boost profits.
This trend reversed in recent years, as banks, brokerage houses, and insurance
companies are exiting the mutual fund management business. Merrill Lynch agreed on
February 15, 2006, to swap its mutual funds business for an approximate 49 percent
stake in money-manager BlackRock Inc. The mutual fund or retail accounts represented
a new customer group for BlackRock, founded in 1987, which had previously managed
primarily institutional accounts.
At $453 billion in 2005, BlackRock’s assets under management had grown four times
faster than Merrill’s $544 billion mutual fund assets. During 2005, BlackRock’s net
income increased to $270 million, or 63 percent over the prior year, as compared to
Merrill’s 27 percent growth in net income in its mutual fund business to $397 million.
BlackRock and Merrill stock traded at 30 and 19 times estimated 2006 earnings,
respectively.
Merrill assets and net income represented 55 percent and 60 percent of the combined
BlackRock and Merrill assets and net income, respectively. Under the terms of the
transaction, BlackRock would issue 65 million new common shares to Merrill. Based
on BlackRock’s February 14, 2005, closing price, the deal is valued at $9.8 billion. The
common stock gave Merrill 49 percent of the outstanding BlackRock voting stock. PNC
Financial and employees and public shareholders owned 34 percent and 17 percent,
respectively. Merrill’s ability to influence board decisions is limited, since it has only 2
of 17 seats on the BlackRock board of directors. Certain ‘significant matters” require a
70 percent vote of all board members and 100 percent of the nine independent
members, which include the two Merrill representatives. Merrill (along with PNC) must
also vote its shares as recommended by the BlackRock board.
Discussion Questions:
1) Merrill owns less than half of the combined firms, although it contributed more than
one- half of the combined firms’ assets and net income. Discuss how you might use
DCF and relative valuation methods to determine Merrill’s proportionate ownership in
the combined firms.
2) Why do you believe Merrill was willing to limit its influence in the combined firms?
3) What method of accounting would Merrill use to show its investment in BlackRock?
Answer:
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.
On April 28, 2008, Mars announced that it had reached an agreement to merge with
Wrigley Corporation for $23 billion in cash. Under the terms of the agreement, which
were unanimously approved by the boards of the two firms, shareholders of Wrigley
would receive $80 in cash for each share of common stock outstanding, a 28 percent
premium to Wrigley’s closing share price of $62.45 on the announcement date. The
merged firms in 2008 would have a 14.4 percent share of the global confectionary
market, annual revenue of $27 billion, and 64,000 employees worldwide. The merger of
the two family-controlled firms represents a strategic blow to competitor Cadbury
Schweppes’s efforts to continue as the market leader in the global confectionary market
with its gum and chocolate business. Prior to the announcement, Cadbury had a 10
percent worldwide market share.
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.
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 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
Answer:
Oracle Attempts to Takeover PeopleSoft
PeopleSoft, a maker of human resource and database software, announced on February
9, 2004 that an increased bid by Oracle, a maker of database software, of $26 per share
made directly to the shareholders was inadequate. PeopleSoft’s board and management
rejected the bid even though it represented a 33% increase over Oracle’s previous offer
of $19.50 per share. The PeopleSoft board urged its shareholders to reject the bid in a
mailing of its own to its shareholders. If successful, the takeover would be valued at
$9.4 billion. After an initial jump to $23.72 a share, PeopleSoft shares had eased to
$22.70 a share, well below Oracle’s sweetened offer.
The rejection prolonged a highly contentious and public eight-month takeover battle
that has pitted the two firms against each other. PeopleSoft was quick to rebuke publicly
Oracle’s original written offer made behind the scenes to PeopleSoft’s management that
included a requirement that PeopleSoft respond immediately. At about the same time,
Oracle filed its intentions with respect to PeopleSoft with the SEC when its ownership
of PeopleSoft stock rose above 5%. Since then, Oracle proposed replacing five of
PeopleSoft’s board members with its own nominees at the PeopleSoft annual meeting to
be held on March 25, 2004, in addition to increasing the offer price. This meeting was
held about two months earlier than its normally scheduled annual meetings. By moving
up the schedule for the meeting, investors had less time to buy PeopleSoft shares in
order to be able to vote at the meeting, where the two companies will present rival
slates for the PeopleSoft board. Oracle seeks to gain a majority on the PeopleSoft board
in order to lift the company’s unique “customer assurance” anti-takeover defense.
PeopleSoft advised its shareholders to vote no on the slate of potential board members
proposed by Oracle. PeopleSoft also announced that it would buyback another $200
million of its shares, following the $350 million buyback program completed last year.
Oracle has said that it will take $9.8 billion (including transaction fees) to complete the
deal. The cost of acquiring PeopleSoft could escalate under PeopleSoft’s unusual
customer assurance program in which its customers have been offered money-back
guarantees if an acquirer reduces its support of PeopleSoft products. Oracle repeated its
intention to continue support for PeopleSoft customers and products. The potential
liability under the program increased to $1.55 billion. In addition, Oracle will have to
pay PeopleSoft’s CEO Craig Conway a substantial multiple of his current annual salary
if he loses his job after a takeover. This could cost Oracle an additional $25 to $30
million. Meanwhile, the Federal Trade Commission is reviewing the proposed
acquisition of PeopleSoft by Oracle and has expressed concern that it will leave to
reduced competition in the software industry.
Discussion Questions:
1) Explain why PeopleSoft’s management may have rejected Oracle’s improved offer of
$26 per share and why this rejection might have been in the best interests of the
PeopleSoft shareholders? What may have PeopleSoft’s management been expecting to
happen (Hint: Consider the various post-offer antitakeover defenses that could be put in
place)?
2) Identify at least one takeover tactic being employed by Oracle in its attempt to
acquire PeopleSoft. Explain how this takeover tactic(s) works.
3) Identify at least one takeover defense or tactic that is in place or is being employed
by PeopleSoft. Explain how this defense or tactic is intended to discourage Oracle in its
takeover effort.
4) After initially jumping, PeopleSoft’s share price dropped to about $22 per share, well
below Oracle’s sweetened offer. When does this tell you about investors’ expectations
about the deal. Why do you believe investors felt the way they did? Be specific.
Answer:
How the Microsoft Case Could Define Antitrust Law in the “New Economy”
The Microsoft case was about more than just the software giant’s misbehavior. Antitrust
law was also on trial. When the Justice Department sued Microsoft in 1998, it argued
that the century old Sherman Antitrust Act could be applied to police high tech
monopolies. This now looks doubtful. As the digital economy evolves, it is likely to be
full of natural monopolies (i.e., those in which only one producer can survive, in
hardware, software, and communications), since consumers are motivated to prefer
products compatible with ubiquitous standards. Under such circumstances, monopolies
emerge. Companies whose products set the standards will be able to bundle other
products with their primary offering, just like Microsoft has done with its operating
system. What type of software can and cannot be bundled continues to be a thorny issue
for antitrust policy.
Although the proposed remedy did not stand on appeal, the Microsoft case had
precedent value because of the perceived importance of innovation in the
information-based, technology-driven “new economy.” This case illustrates how “trust
busters” are increasingly viewing innovation as a central issue in enforcement policy.
Regulators increasingly are seeking to determine whether proposed business
combinations either promote or impede innovation.
Because of the accelerating pace of new technology, government is less likely to want
to be involved in imposing remedies that seek to limit anticompetitive behaviors by
requiring the government to monitor continuously a firm’s performance to a consent
decree. In fact, the government’s frustration with the ineffectiveness of sanctions
imposed on Microsoft in the early 1990s may have been a contributing factor in their
proposal to divide the firm.
Antitrust watchdogs are likely to pay more attention in the future to the impact of
proposed mergers or acquisitions on start-ups, which are viewed as major contributors
to innovation. In some instances, business combinations among competitors may be
disallowed if they are believed to be simply an effort to slow the rate of innovation. The
challenge for regulators will be to recognize when cooperation or mergers among
competitors may provide additional incentives for innovation through a sharing of risk
and resources. However, until the effects on innovation of a firm’s actions or a proposed
merger can be more readily measured, decisions by regulators may appear to be more
arbitrary than well reasoned.
The economics of innovation are at best ill-defined. Innovation cycles are difficult to
determine and may run as long as several decades between the gestation of an idea and
its actual implementation. Consequently, if it is to foster innovation, antitrust policy will
have to attempt to anticipate technologies, markets, and competitors that do not
currently exist to determine which proposed business combinations should be allowed
and which firms with substantial market positions should be broken up.
Discussion Questions:
Comment on whether antitrust policy can be used as an effective means of
encouraging innovation.
Was Microsoft a good antitrust case in which to test the effectiveness of antitrust policy
on promoting innovation? Why or why not?
Answer:
The Cash Impact of Product Warranties
Reliable Appliances, a leading manufacturer of washing machines and dryers, acquired
a marginal competitor, Quality-Built, which had been losing money during the last
several years. To help minimize losses, Quality-Built reduced its quality-control
expenditures and began to purchase cheaper parts. Quality-Built knew that this would
hurt business in the long run, but it was more focused on improving its current financial
performance to increase the firm’s prospects for eventual sale. Reliable Appliances saw
an acquisition of the competitor as a way of obtaining market share quickly at a time
when Quality-Built’s market value was the lowest in 3 years. The sale was completed
quickly at a very small premium to the current market price.
Quality-Built had been selling its appliances with a standard industry 3-year warranty.
Claims for the types of appliances sold tended to increase gradually as the appliance
aged. Quality-Built’s warranty claims’ history was in line with the industry experience
and did not appear to be a cause for alarm. Not surprisingly, in view of Quality-Built’s
cutback in quality-control practices and downgrading of purchased parts, warranty
claims began to escalate sharply within 12 months of Reliable Appliances’s acquisition
of Quality-Built. Over the next several years, Reliable Appliances paid out $15 million
in warranty claims. The intangible damage may have been much higher because
Reliable Appliances’s reputation had been damaged in the marketplace.
Discussion Questions:
1) Should Reliable Appliances have been able to anticipate this problem from its due
diligence of Quality-Built? Explain how this might have been accomplished.
2) How could Reliable have protected itself from the outstanding warranty claims in the
definitive agreement of purchase and sale?
Answer:
Strains Threaten Verizon and Vodafone Joint Venture
Vodafone Group, the U.K. based cell phone behemoth wanted to expand geographic
coverage in the U.S. In 2000, they teamed up with Verizon Communications to form
Verizon Wireless. The profitable business had annual revenues of $20 billion and a
coast-to-coast network serving more U.S. customers than any other carrier. However,
Vodafone’s global ambitions and its buy-out option threatened to put the venture at risk
of breaking up.
Vodafone executives expressed frustration by the company’s lack of control in the U.S.,
because it owns just 45 percent of the venture. Vodafone seeking to establish its own
brand name has been unable to get its name attached to a single product of the joint
venture. Moreover, it has been unable to persuade the venture to use a technology
compatible with that used by Vodafone in most of the 28 other countries in which it
does business. This issue has proven to be particularly irksome since part of the
Vodafone strategy is that its European, Asian, and Middle Eastern customers would be
able to travel to the U.S. and use their cell phones on Vodafone’s network in the U.S.
Vodafone also complains that Verizon Wireless has been slow to push next-generation
wireless services such as photo and text messaging. Verizon Wireless also receives three
times as many customer complaints as the average of Vodafone European units.
Vodafone is reduced to be a passive financial investor in the operation. The two partners
are also at odds in their strategies for owning wireless assets. Verizon Communications
increasingly uses the venture to support its declining land-line telephone business, by
bundling wireless at a discount with other services. Vodafone considers landlines as
having no future for its strategy.
The cloud hanging over Verizon Wireless is the put that Vodafone received as part of its
initial investment which gives it the right to sell its interests to Verizon at certain points
through 2006. Vodafone can demand that Verizon pay it $10 billion in return for its
stake. Mindful of the put, the partners have discussed friendlier ways to alter their
relationship. For example, Vodafone could swap part of its stake in the venture for
Verizon Communications’ interest in Italian wireless operation Omnitel. Anything that
reduced Vodafone’s interest in Verizon Wireless below 20 percent would free Vodafone
from a non-compete clause that precludes the firm from opening up its own operation in
the U.S.
Discussion Questions:
1) What did Verizon Communications and Vodafone expect to get out of the business
alliance?
2) To what extent are the problems plaguing the venture today a reflection of failure to?
communicate during the negotiations to form the joint venture? What should they have
done
differently?
3) Give examples of how the partners’ objectives differ.
4) How could Verizon Communications have protected itself from the leverage
Vodafone’s put option provides? Explain your answer.
Answer:
Viacom to Spin Off Blockbuster
After months of trying to sell its 81% stake in Blockbuster Inc. undertook a tax-free
spin-off in mid 2004. Viacom shareholders will have the option to swap their Viacom
shares for Blockbuster shares and a special cash payout. Blockbuster had been hurt by
competition from low-priced rivals and the erosion of video rentals by accelerating
DVD sales. Despite Blockbuster’s steady contribution to Viacom’s overall cash flow,
Viacom believed that the growth prospects for the unit were severely limited. In
preparation for the spin-off, Viacom had reported a $1.3 billion charge to earnings in
the fourth quarter of 2003 in writing down goodwill associated with its acquisition of
Blockbuster. By spinning off Blockbuster, Viacom Chairman and ECO Sumner
Redstone statd that the firm would now be able to focus on its core TV (i.e., CBS and
MTV) and movie (i.e., Paramount Studios) businesses. Blockbuster shares fell by 4%
and Viacom shares rose by 1% on the day of the announcement.
Discussion Questions:
1) Why would Viacom choose to spin-off rather than divest its Blockbuster unit?
Explain your answer.
2) In your opinion, why did Viacom and Blockbuster share prices react the way they did
to the announcement of the
spin-off?
Answer:
USX Bows to Shareholder Pressure to Split Up the Company
As one of the first firms to issue tracking stocks in the mid-1980s, USX relented to
ongoing shareholder pressure to divide the firm into two pieces. After experiencing a
sharp “boom/bust” cycle throughout the 1970s, U.S. Steel had acquired Marathon Oil, a
profitable oil and gas company, in 1982 in what was at the time the second largest
merger in U.S. history. Marathon had shown steady growth in sales and earnings
throughout the 1970s. USX Corp. was formed in 1986 as the holding company for both
U.S. Steel and Marathon Oil. In 1991, USX issued its tracking stocks to create “pure
plays” in its primary businessessteel and oiland to utilize USX’s steel losses, which
could be used to reduce Marathon’s taxable income. Marathon shareholders have long
complained that Marathon’s stock was selling at a discount to its peers because of its
association with USX. The campaign to split Marathon from U.S. Steel began in earnest
in early 2000.
On April 25, 2001, USX announced its intention to split U.S. Steel and Marathon Oil
into two separately traded companies. The breakup gives holders of Marathon Oil stock
an opportunity to participate in the ongoing consolidation within the global oil and gas
industry. Holders of USXU.S. Steel Group common stock (target stock) would become
holders of newly formed Pittsburgh-based United States Steel Corporation, a return to
the original name of the firm formed in Under the reorganization plan, U.S. Steel and
Marathon would retain the same assets and liabilities already associated with each
business. However, Marathon will assume $900 million in debt from U.S. Steel, leaving
the steelmaker with $1.3 billion of debt. This assumption of debt by Marathon is an
attempt to make U.S. Steel, which continued to lose money until 2004, able to stand on
its own financially.
The investor community expressed mixed reactions, believing that Marathon would be
likely to benefit from a possible takeover attempt, whereas U.S. Steel would not fare as
well. Despite the initial investor pessimism, investors in both Marathon and U.S. Steel
saw their shares appreciate significantly in the years immediately following the
breakup.
:
Discussion Questions:
1) Why do you believe U.S. Steel may have decided to acquire Marathon Oil? Does this
combination make economic sense? Explain your answer.
2) Why do you think USX issued separate tracking stocks for its oil and steel
businesses?
3) Why do you believe USX shareholders were not content to continue to hold tracking
stocks in Marathon Oil and U.S. Steel?
4) In your judgment, did the breakup of USX into Marathon Oil and United States
Steel Corporation make sense? Why or why not?
5) What other alternatives could USX have pursued to increase shareholder value? Why
do you believe they pursued the breakup strategy rather than some of the alternatives?
Answer:
RJR NABISCO GOES PRIVATE
KEY SHAREHOLDER AND PUBLIC POLICY ISSUES
Background
The largest LBO in history is as well known for its theatrics as it is for its substantial
improvement in shareholder value. In October 1988, H. Ross Johnson, then CEO of
RJR Nabisco, proposed an MBO of the firm at $75 per share. His failure to inform the
RJR board before publicly announcing his plans alienated many of the directors.
Analysts outside the company placed the breakup value of RJR Nabisco at more than
$100 per sharealmost twice its then current share price. Johnson’s bid immediately was
countered by a bid by the well-known LBO firm, Kohlberg, Kravis, and Roberts
(KKR), to buy the firm for $90 per share (Wasserstein, 1998). The firm’s board
immediately was faced with the dilemma of whether to accept the KKR offer or to
consider some other form of restructuring of the company. The board appointed a
committee of outside directors to assess the bid to minimize the appearance of a
potential conflict of interest in having current board members, who were also part of the
buyout proposal from management, vote on which bid to select.
The bidding war soon escalated with additional bids coming from Forstmann Little and
First Boston, although the latter’s bid never really was taken very seriously. Forstmann
Little later dropped out of the bidding as the purchase price rose. Although the firm’s
investment bankers valued both the bids by Johnson and KKR at about the same level,
the board ultimately accepted the KKR bid. The winning bid was set at almost $25
billionthe largest transaction on record at that time and the largest LBO in history.
Banks provided about three-fourths of the $20 billion that was borrowed to complete
the transaction. The remaining debt was supplied by junk bond financing. The RJR
shareholders were the real winners, because the final purchase price constituted a more
than 100% return from the $56 per share price that existed just before the initial bid by
RJR management.
Aggressive pricing actions by such competitors as Phillip Morris threatened to erode
RJR Nabisco’s ability to service its debt. Complex securities such as “increasing rate
notes,” whose coupon rates had to be periodically reset to ensure that these notes would
trade at face value, ultimately forced the credit rating agencies to downgrade the RJR
Nabisco debt. As market interest rates climbed, RJR Nabisco did not appear to have
sufficient cash to accommodate the additional interest expense on the increasing return
notes. To avoid default, KKR recapitalized the company by investing additional equity
capital and divesting more than $5 billion worth of businesses in 1990 to help reduce its
crushing debt load. In 1991, RJR went public by issuing more than $1 billion in new
common stock, which placed about one-fourth of the firm’s common stock in public
hands.
When KKR eventually fully liquidated its position in RJR Nabisco in 1995, it did so for
a far smaller profit than expected. KKR earned a profit of about $60 million on an
equity investment of $3.1 billion. KKR had not done well for the outside investors who
had financed more than 90% of the total equity investment in KKR. However, KKR
fared much better than investors had in its LBO funds by earning more than $500
million in transaction fees, advisor fees, management fees, and directors’ fees. The
publicity surrounding the transaction did not cease with the closing of the transaction.
Dissident bondholders filed suits alleging that the payment of such a large premium for
the company represented a “confiscation” of bondholder wealth by shareholders.
Potential Conflicts of Interest
In any MBO, management is confronted by a potential conflict of interest. Their
fiduciary responsibility to the shareholders is to take actions to maximize shareholder
value; yet in the RJR Nabisco case, the management bid appeared to be well below
what was in the best interests of shareholders. Several proposals have been made to
minimize the potential for conflict of interest in the case of an MBO, including that
directors, who are part of an MBO effort, not be allowed to participate in voting on
bids, that fairness opinions be solicited from independent financial advisors, and that a
firm receiving an MBO proposal be required to hold an auction for the firm.
The most contentious discussion immediately following the closing of the RJR Nabisco
buyout centered on the alleged transfer of wealth from bond and preferred stockholders
to common stockholders when a premium was paid for the shares held by RJR Nabisco
common stockholders. It often is argued that at least some part of the premium is offset
by a reduction in the value of the firm’s outstanding bonds and preferred stock because
of the substantial increase in leverage that takes place in LBOs.
Winners and Losers
RJR Nabisco shareholders before the buyout clearly benefited greatly from efforts to
take the company private. However, in addition to the potential transfer of wealth from
bondholders to stockholders, some critics of LBOs argue that a wealth transfer also
takes place in LBO transactions when LBO management is able to negotiate wage and
benefit concessions from current employee unions. LBOs are under greater pressure to
seek such concessions than other types of buyouts because they need to meet huge debt
service requirements.
Discussion Questions:
1) In your opinion, was the buyout proposal presented by Ross Johnson’s management
group in the best interests of the shareholders? Why? / Why not?
2) What were the RJR Nabisco board’s fiduciary responsibilities to the shareholders?
How well did they satisfy these responsibilities? What could/should they have done
differently?
3) Why might the RJR Nabisco board have accepted the KKR bid over the Johnson
bid?
4) How might bondholders and preferred stockholders have been hurt in the RJR
Nabisco leveraged buyout?
5) Describe the potential benefits and costs of LBOs to shareholders, employers,
lenders, customers, and communities in which the firm undergoing the buyout may
have operations. Do you believe that on average LBOs provide a net benefit or cost to
society? Explain your answer.
Answer:
HCA’s LBO Represents a High-Risk Bet on Growth
While most LBOs are predicated on improving operating performance through a
combination of aggressive cost cutting and revenue growth, HCA laid out an
unconventional approach in its effort to take the firm private. On July 24, 2006,
management again announced that it would “go private” in a deal valued at $33 billion
including the assumption of $11.7 billion in existing debt.
The approximate $21.3 billion purchase price for HCA’s stock was financed by a
combination of $12.8 billion in senior secured term loans of varying maturities and an
estimated $8.5 billion in cash provided by Bain Capital, Merrill Lynch Global Private
Equity, and Kohlberg Kravis Roberts & Company. HCA also would take out a $4
billion revolving credit line to satisfy immediate working capital requirements. The firm
publicly announced a strategy of improving performance through growth rather than
through cost cutting. HCA’s network of 182 hospitals and 94 surgery centers is
expected to benefit from an aging U.S. population and the resulting increase in
health-care spending. The deal also seems to be partly contingent on the government
assuming a larger share of health-care costs in the future. Finally, with many nonprofit
hospitals faltering financially, HCA may be able to acquire them inexpensively.
While the longer-term trends in the health-care industry are unmistakable, shorter-term
developments appear troublesome, including sluggish hospital admissions, more
uninsured patients, and higher bad debt expenses. Moreover, with Medicare and
Medicaid financially insolvent, it is unclear if future increases in government
health-care spending would be sufficient to enable HCA investors to achieve their
expected financial returns. With the highest operating profit margins in the industry, it is
uncertain if HCA’s cash flows could be significantly improved by cost cutting, if the
revenue growth assumptions fail to materialize. HCA’s management and equity
investors have put themselves in a position in which they seem to have relatively little
influence over the factors that directly affect the firm’s future cash flows.
Discussion Questions:
1) Does a hospital or hospital system represent a good or bad LBO candidate? Explain
your answer.
2) Having pledged not to engage in aggressive cost cutting, how do you think HCA and
its financial sponsor group planned on paying off the loans?
Answer:
Anthem-Well Point Merger Hits Regulatory Snag
In mid-2004, a California insurance regulator refused to approve Anthem Inc’s
(“Anthem”) $20 billion acquisition of WellPoint Health NetWorks Incorporated
(“WellPoint”). If allowed, the proposed merger would result in the nation’s largest
health insurer, with 28 million members. After months of regulatory review, the deal
had already received approval from 10 state regulators, the Justice Department, and
97% of the shares outstanding of both firms. Nonetheless, California Insurance
Commissioner, John Garamendi, denounced the proposed transaction as unreasonably
enriching the corporate officers of the firms without improving the availability or
quality of healthcare. Earlier the same day, Lucinda Ehnes, Director of the Department
of Managed Healthcare in California approved the transaction. The Managed
Healthcare Agency has regulatory authority over Blue Cross of California, a managed
healthcare company that is by far the largest and most important WellPoint operation in
the state. Mr. Garamendi’s department has regulatory authority over about 4% of
WellPoint’s California business through its BC Life & Health Insurance Company
subsidiary (“BC”). Interestingly, Ms. Ehnes is an appointee of California’s Republican
governor, Arnold Schwarzenegger, while Mr. Garamendi, a Democrat, is an elected
official who had previously run unsuccessfully for governor. Moreover, two week’s
earlier he announced that he will be a candidate for lieutenant governor in 2006.
Mr. Garamendi had asked Anthem to invest in California’s low income communities an
amount equal to the executive compensation payable to WellPoint executives due to
termination clauses in their contracts. Estimates of the executive compensation ranged
as high as $600 million. Anthem immediately sued John Garamendi, seeking to
overrule his opposition to the transaction. In the lawsuit, Anthem argued that
Garamendi acted outside the scope of his authority by basing his decision on personal
beliefs about healthcare policy and executive compensation rather than on the criteria
set forth in California state law. Anthem argued that the executive compensation
payable for termination if WellPoint changed ownership was part of the affected
executives’ employment contracts negotiated well in advance of the onset of Anthem’s
negotiations to acquire WellPoint. The California insurance regulator finally dropped
his objections when the companies agreed to pay $600 million to help cover the cost of
treating California’s uninsured residents.
Following similar concessions in Georgia, Anthem was finally able to complete the
transaction on December 1, 2004. Closing occurred almost one year after the
transaction had been announced.
Discussion Questions:
1) If you were the Anthem CEO, would you withdraw from the deal, initiate a court
battle, drop the Blue Cross subsidiary from the transaction, agree to regulators’
demands, or adopt some other course of action? Explain your answer.
2) What are the risks to Anthem and WellPoint of delaying the closing date? Be
specific.
3) To what extent should regulators use their powers to promote social policy?
Answer:
Vivendi Universal and GE Combine Entertainment Assets to Form NBC Universal
Ending a four-month-long auction process, Vivendi Universal SA agreed on October 5,
2003, to sell its Vivendi Universal Entertainment (VUE) businesses, consisting of film
and television assets, to General Electric Corporation’s wholly owned NBC subsidiary.
Vivendi received a combination of GE stock and stock in the combined company
valued at approximately $14 billion. Vivendi would combine the Universal Pictures
movie studio, its television production group, three cable networks, and the Universal
theme parks with NBC. The new company would have annual revenues of $13 billion
based on 2003 pro forma statements.
This transaction was among many made by Vivendi in its effort to restore the firm’s
financial viability. Having started as a highly profitable distributor of bottled water, the
French company undertook a diversification spree in the 1990s, which pushed the firm
into many unrelated enterprises and left it highly in debt. With its stock plummeting,
Vivendi had been under considerable pressure to reduce its leverage and refocus its
investments.
Applying a multiple of 14 times estimated 2003 EBITDA of $3 billion, the combined
company had an estimated value of approximately $42 billion. This multiple is well
within the range of comparable transactions and is consistent with the share price
multiples of television media companies at that time. Of the $3 billion in 2003
EBITDA, GE would provide $2 billion and Vivendi $1 billion. This values GE’s assets
at $28 billion and Vivendi’s at $14 billion. This implies that GE assets contribute two
thirds and Vivendi’s one third of the total market value of the combined company.
NBC Universal’s total assets of $42 billion consist of VUE’s assets valued at $14 billion
and NBC’s at $28 billion. Vivendi chose to receive an infusion of liquidity at closing
consisting of $4.0 billion in cash by selling its right to receive $4 billion in GE stock
and the transfer of $1.6 billion in debt carried by VUE’s businesses to NBC Universal.
Vivendi would retain an ongoing approximate 20 percent ownership in the new
company valued at $8.4 billion after having received $5.6 billion in liquidity at closing.
GE would have 80 percent ownership in the new company in exchange for providing
$5.6 billion in liquidity (i.e., $4 billion in cash and assuming $1.6 billion in debt).
Vivendi had the option to sell its 20 percent ownership interest in the future, beginning
in 2006, at fair market value. GE would have the first right (i.e., the first right of
refusal) to acquire the Vivendi position. GE anticipated that its 80 percent ownership
position in the combined company would be accretive for GE shareholders beginning in
the second full year of operation.
Discussion Questions:
1) From a legal standpoint, identify the acquirer and the target firms?
2) What is the form of acquisition? Why might the parties involved in the transaction
have agreed to this form?
3) What is the form of acquisition vehicle and the post-closing organization? Why do
you think the legal entities you have identified were selected?
4) What is the form of payment or total consideration? Why do you think this form of
payment may have been selected by the parties involved?
5) Is this transaction likely to be non-taxable, wholly taxable, or partially taxable to
Vivendi? Explain your answer.
6) Based on a total valuation of $42 billion, Vivendi’s assets contributed one-third and
GE’s two-thirds of the total value of NBC Universal. However, after the closing,
Vivendi would only own a 20% equity position in the combined business. Why?
Answer:
Panda Ethanol Goes Public in a Shell Corporation
In early 2007, Panda Ethanol, owner of ethanol plants in west Texas, decided to explore
the possibility of taking its ethanol production business public to take advantage of the
high valuations placed on ethanol-related companies in the public market at that time.
The firm was confronted with the choice of taking the company public through an
initial public offering or by combining with a publicly traded shell corporation through
a reverse merger.
After enlisting the services of a local investment banker, Grove Street Investors, Panda
chose to “go public” through a reverse merger. This process entailed finding a shell
corporation with relatively few shareholders who were interested in selling their stock.
The investment banker identified Cirracor Inc. as a potential merger partner. Cirracor
was formed on October 12, 2001, to provide website development services and was
traded on the over-the-counter bulletin board market (i.e., a market for very low-priced
stocks). The website business was not profitable, and the company had only ten
shareholders. As of June 30, 2006, Cirracor listed $4,856 in assets and a negative
shareholders’ equity of $(259,976). Given the poor financial condition of Cirracor, the
firm’s shareholders were interested in either selling their shares for cash or owning even
a relatively small portion of a financially viable company to recover their initial
investments in Cirracor. Acting on behalf of Panda, Grove Street formed a limited
liability company, called Grove Panda, and purchased 2.73 million Cirracor common
shares, or 78 percent of the company, for about $475,000.
The merger proposal provided for one share of Cirracor common stock to be exchanged
for each share of Panda Ethanol common outstanding stock and for Cirracor
shareholders to own 4 percent of the newly issued and outstanding common stock of the
surviving company. Panda Ethanol shareholders would own the remaining 96 percent.
At the end of 2005, Panda had 13.8 million shares outstanding. On June 7, 2007, the
merger agreement was amended to permit Panda Ethanol to issue 15 million new shares
through a private placement to raise $90 million. This brought the total Panda shares
outstanding to 28.8 million. Cirracor common shares outstanding at that time totaled 3.5
million. However, to achieve the agreed-on ownership distribution, the number of
Cirracor shares outstanding had to be reduced. This would be accomplished by an
approximate three-for-one reverse stock split immediately prior to the completion of the
reverse merger (i.e., each Cirracor common share would be converted into 0.340885
shares of Cirracor common stock). As a consequence of the merger, the previous
shareholders of Panda Ethanol were issued 28.8 million new shares of Cirracor
common stock. The combined firm now has 30 million shares outstanding, with the
Cirracor shareholders owning 1.2 million shares. The following table illustrates the
effect of the reverse stock split.
* In millions of dollars.
A special Cirracor shareholders’ meeting was required by Nevada law (i.e., the state in
which Cirracor was incorporated) in view of the substantial number of new shares that
were to be issued as a result of the merger. The proxy statement filed with the Securities
and Exchange Commission and distributed to Cirracor shareholders indicated that
Grove Panda, a 78 percent owner of Cirracor common stock, had already indicated that
it would vote its shares for the merger and the reverse stock split. Since Cirracor’s
articles of incorporation required only a simple majority to approve such matters, it was
evident to all that approval was imminent.
On November 7, 2007, Panda completed its merger with Cirracor Inc. As a result of the
merger, all shares of Panda Ethanol common stock (other than Panda Ethanol
shareholders who had executed their dissenters’ rights under Delaware law) would cease
to have any rights as a shareholder except the right to receive one share of Cirracor
common stock per share of Panda Ethanol common. Panda Ethanol shareholders
choosing to exercise their right to dissent would receive a cash payment for the fair
value of their stock on the day immediately before closing. Cirracor shareholders had
similar dissenting rights under Nevada law. While Cirracor is the surviving corporation,
Panda is viewed for accounting purposes as the acquirer. Accordingly, the financial
statements shown for the surviving corporation are those of Panda Ethanol.
Discussion Questions:
1) Who were Panda Ethanol, Grove Street Investors, Grove Panda, and Cirracor? What
were their roles in the case study? Be specific.
2) Discuss the pros and cons of a reverse merger versus an initial public offering for
taking a
company public.
3) Why did Panda Ethanol undertake a private equity placement totaling $90 million
shortly before
implementing the reverse merger?
4) Why do you believe Panda did not directly approach Cirraco ? How were the Panda
Grove investment holdings used to influence the outcome of the proposed merger?
Answer:
RJR NABISCO GOES PRIVATE
KEY SHAREHOLDER AND PUBLIC POLICY ISSUES
Background
The largest LBO in history is as well known for its theatrics as it is for its substantial
improvement in shareholder value. In October 1988, H. Ross Johnson, then CEO of
RJR Nabisco, proposed an MBO of the firm at $75 per share. His failure to inform the
RJR board before publicly announcing his plans alienated many of the directors.
Analysts outside the company placed the breakup value of RJR Nabisco at more than
$100 per sharealmost twice its then current share price. Johnson’s bid immediately was
countered by a bid by the well-known LBO firm, Kohlberg, Kravis, and Roberts
(KKR), to buy the firm for $90 per share (Wasserstein, 1998). The firm’s board
immediately was faced with the dilemma of whether to accept the KKR offer or to
consider some other form of restructuring of the company. The board appointed a
committee of outside directors to assess the bid to minimize the appearance of a
potential conflict of interest in having current board members, who were also part of the
buyout proposal from management, vote on which bid to select.
The bidding war soon escalated with additional bids coming from Forstmann Little and
First Boston, although the latter’s bid never really was taken very seriously. Forstmann
Little later dropped out of the bidding as the purchase price rose. Although the firm’s
investment bankers valued both the bids by Johnson and KKR at about the same level,
the board ultimately accepted the KKR bid. The winning bid was set at almost $25
billionthe largest transaction on record at that time and the largest LBO in history.
Banks provided about three-fourths of the $20 billion that was borrowed to complete
the transaction. The remaining debt was supplied by junk bond financing. The RJR
shareholders were the real winners, because the final purchase price constituted a more
than 100% return from the $56 per share price that existed just before the initial bid by
RJR management.
Aggressive pricing actions by such competitors as Phillip Morris threatened to erode
RJR Nabisco’s ability to service its debt. Complex securities such as “increasing rate
notes,” whose coupon rates had to be periodically reset to ensure that these notes would
trade at face value, ultimately forced the credit rating agencies to downgrade the RJR
Nabisco debt. As market interest rates climbed, RJR Nabisco did not appear to have
sufficient cash to accommodate the additional interest expense on the increasing return
notes. To avoid default, KKR recapitalized the company by investing additional equity
capital and divesting more than $5 billion worth of businesses in 1990 to help reduce its
crushing debt load. In 1991, RJR went public by issuing more than $1 billion in new
common stock, which placed about one-fourth of the firm’s common stock in public
hands.
When KKR eventually fully liquidated its position in RJR Nabisco in 1995, it did so for
a far smaller profit than expected. KKR earned a profit of about $60 million on an
equity investment of $3.1 billion. KKR had not done well for the outside investors who
had financed more than 90% of the total equity investment in KKR. However, KKR
fared much better than investors had in its LBO funds by earning more than $500
million in transaction fees, advisor fees, management fees, and directors’ fees. The
publicity surrounding the transaction did not cease with the closing of the transaction.
Dissident bondholders filed suits alleging that the payment of such a large premium for
the company represented a “confiscation” of bondholder wealth by shareholders.
Potential Conflicts of Interest
In any MBO, management is confronted by a potential conflict of interest. Their
fiduciary responsibility to the shareholders is to take actions to maximize shareholder
value; yet in the RJR Nabisco case, the management bid appeared to be well below
what was in the best interests of shareholders. Several proposals have been made to
minimize the potential for conflict of interest in the case of an MBO, including that
directors, who are part of an MBO effort, not be allowed to participate in voting on
bids, that fairness opinions be solicited from independent financial advisors, and that a
firm receiving an MBO proposal be required to hold an auction for the firm.
The most contentious discussion immediately following the closing of the RJR Nabisco
buyout centered on the alleged transfer of wealth from bond and preferred stockholders
to common stockholders when a premium was paid for the shares held by RJR Nabisco
common stockholders. It often is argued that at least some part of the premium is offset
by a reduction in the value of the firm’s outstanding bonds and preferred stock because
of the substantial increase in leverage that takes place in LBOs.
Winners and Losers
RJR Nabisco shareholders before the buyout clearly benefited greatly from efforts to
take the company private. However, in addition to the potential transfer of wealth from
bondholders to stockholders, some critics of LBOs argue that a wealth transfer also
takes place in LBO transactions when LBO management is able to negotiate wage and
benefit concessions from current employee unions. LBOs are under greater pressure to
seek such concessions than other types of buyouts because they need to meet huge debt
service requirements.
Discussion Questions:
1) In your opinion, was the buyout proposal presented by Ross Johnson’s management
group in the best interests of the shareholders? Why? / Why not?
2) What were the RJR Nabisco board’s fiduciary responsibilities to the shareholders?
How well did they satisfy these responsibilities? What could/should they have done
differently?
3) Why might the RJR Nabisco board have accepted the KKR bid over the Johnson
bid?
4) How might bondholders and preferred stockholders have been hurt in the RJR
Nabisco leveraged buyout?
5) Describe the potential benefits and costs of LBOs to shareholders, employers,
lenders, customers, and communities in which the firm undergoing the buyout may
have operations. Do you believe that on average LBOs provide a net benefit or cost to
society? Explain your answer.
Answer:
Mittal Acquires ArcelorA Battle of Global Titans in the European Corporate
Takeover Market
Ending five months of maneuvering, Arcelor agreed on June 26, 2006, to be acquired
by larger rival Mittal Steel Co. for $33.8 billion in cash and stock. The takeover battle
was one of the most acrimonious in recent European Union history. Hostile takeovers
are now increasingly common in Europe. The battle is widely viewed as a test case as to
how far a firm can go in attempting to prevent an unwanted takeover.
Arcelor was created in 2001 by melding steel companies in Spain, France, and
Luxembourg. Most of its 90 plants are in Europe. In contrast, most of Mittal’s plants are
outside of Europe in areas with lower labor costs. Lakshmi Mittal, Mittal’s CEO and a
member of an important industrial family in India, started the firm and built it into a
powerhouse through two decades of acquisitions in emerging nations. The company is
headquartered in the Netherlands for tax reasons. Prior to the Arcelor acquisition, Mr.
Mittal owned 88 percent of the firm’s stock.
Mittal acquired Arcelor to accelerate steel industry consolidation to reduce industry
overcapacity. The combined firms could have more leverage in setting prices and
negotiating contracts with major customers such as auto and appliance manufacturers
and suppliers such as iron ore and coal vendors, and eventually realize $1 billion
annually in pretax cost savings.
After having been rebuffed by Guy Dolle, Arcelor’s president, in an effort to
consummate a friendly merger, Mittal launched a tender offer in January 2006
consisting of mostly stock and cash for all of Arcelor’s outstanding equity. The offer
constituted a 27 percent premium over Arcelor’s share price at that time. The reaction
from Arcelor’s management, European unions, and government officials was swift and
furious. Guy Dolle stated flatly that the offer was “inadequate and strategically
unsound.” European politicians supported Mr. Dolle. Luxembourg’s prime minister,
Jean Claude Juncker, said a hostile bid “calls for a hostile response.” Trade unions
expressed concerns about potential job loss.
Dolle engaged in one of the most aggressive takeover defenses in recent corporate
history. In early February, Arcelor doubled its dividend and announced plans to buy
back about $8.75 billion in stock at a price well above the then current market price for
Arcelor stock. These actions were taken to motivate Arcelor shareholders not to tender
their shares to Mittal. Arcelor also backed a move to change the law so that Mittal
would be required to pay in cash. However, the Luxembourg parliament rejected that
effort.
To counter these moves, Mittal Steel said in mid-February that if it received more than
one-half of the Arcelor shares submitted in the initial tender offer, it would hold a
second tender offer for the remaining shares at a slightly lower price. Mittal pointed out
that it could acquire the remaining shares through a merger or corporate reorganization.
Such rhetoric was designed to encourage Arcelor shareholders to tender their shares
during the first offer.
In late 2005, Arcelor outbid German steelmaker Metallgeschaft to buy Canadian
steelmaker Dofasco for $5 billion. Mittal was proposing to sell Dofasco to raise money
and avoid North American antitrust concerns. Following completion of the Dofasco
deal in April 2006, Arcelor set up a special Dutch trust to prevent Mittal from getting
access to the asset. The trust is run by a board of three Arcelor appointees. The trio has
the power to determine if Dofasco can be sold during the next five years. Mittal
immediately sued to test the legality of this tactic.
In a deal with Russian steel maker OAO Severstahl, Arcelor agreed to exchange its
shares for Alexei Mordashov’s 90 percent stake in Severstahl. The transaction would
give Mr. Mordashov a 32 percent stake in Arcelor. Arcelor also scheduled an unusual
vote that created very tough conditions for Arcelor shareholders to prevent the deal with
Severstahl from being completed. Arcelor’s board stated that the Severstahl deal could
be blocked only if at least 50 percent of all Arcelor shareholders would vote against it.
However, Arcelor knew that only about one-third of shareholders actually attend
meetings. This is a tactic permissible under Luxembourg law, where Arcelor is
incorporated.
Investors holding more than 30 percent of Arcelor shares signed a petition to force the
company to make the deal with Severstahl subject to a traditional 50.1 percent or more
of actual votes cast. After major shareholders pressured the Arcelor board to at least talk
to Mr. Mittal, Arcelor demanded an intricate business plan from Mittal as a condition
that had to be met. Despite Mittal’s submission of such a plan, Arcelor still refused to
talk. In late May, Mittal raised its bid by 34 percent and said that if the bid succeeded,
Mittal would eliminate his firm’s two-tiered share structure, giving the Mittal family
shares ten times the voting rights of other shareholders.
A week after receiving the shareholder petition, the Arcelor board rejected Mittal’s
sweetened bid and repeated its support of the Severstahl deal. Shareholder anger
continued, and many investors said they would reject the share buyback. Some
investors opposed the buyback because it would increase Mr. Mordashov’s ultimate
stake in Arcelor to 38 percent by reducing the number of Arcelor shares outstanding.
Under the laws of most European countries, any entity owning more than a third of a
company is said to have effective control. Arcelor cancelled a scheduled June 21
shareholder vote on the buyback. Despite Mr. Mordashov’s efforts to enhance his bid,
the Arcelor board asked both Mordashov and Mittal to submit their final bids by June
25.
Arcelor finally agreed to Mittal’s final bid, which had been increased by 14 percent. The
new offer consisted of $15.70 in cash and 1.0833 Mittal shares for each Arcelor share.
The new bid is valued at $50.54 per Arcelor share, up from Mittal’s initial bid in
January 2006 of $35.26. The final offer represented an unprecedented 93 percent
premium over Arcelor’s share price of $26.25 immediately before Mittal’s initial bid.
Lakshmi Mittal will control 43.5 percent of the combined firm’s stock. Mr. Mordashov
would receive a $175 million breakup fee due to Arcelor’s failure to complete its
agreement with him. Finally, Mittal agreed not to make any layoffs beyond what
Arcelor already has planned.
Discussion Questions:
1) Identify the takeover tactics employed by Mittal. Explain why each was used.
2) Identify the takeover defenses employed by Arcelor? Explain why each was used.
3) Using the information in this case study, discuss the arguments for and against
encouraging hostile corporate takeovers
4) Was Arcelor’s board and management acting to protect their own positions (i.e., the
management entrenchment hypothesis) or in the best interests of the shareholders (i.e.,
the shareholder interests hypothesis)? Explain your answer.
Answer: