Corporate Fiance, Mergers & Acquisitions
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BSc Business Management with Finance
Follow instructions given overleaf
INSTRUCTIONS TO STUDENTS
Report structure and submission
Every student should submit ONE electronic version of his or her report via a Turnitin link on the VLE on or before the due date. There are penalties for late submission in accordance with the General Academic Regulations.
The report should include THREE parts:
PART 1 – GROUPWORK. This should contain your answers to Questions 1, 2, 3, 4, 5 and 6. These answers should be developed from research, analysis and discussion that you conducted on a group basis. Your group members will be assigned by your tutor. You should only work with members of your assigned team. All students in your group should submit the same agreed text for these questions. Please include each member’s SRN in the report to identify the members of your group. The groupwork element of the report is worth up to 65 marks.
PART 2 – INDIVIDUAL WORK. This should contain your answers to Questions 7, 8 and 9, and must be entirely your own work. The individual element of the report is worth up to 25 marks.
PART 3 – GROUP PEER ASSESSMENT. This should include the agreed peer assessment form for your group. The form should list each member’s name, a description of how each member contributed toward the assignment and a mark out of 5 for each member, together with commentary supporting the award of that mark out of 5. See overleaf for an example.
You should include any relevant appendices after Part 2 and before Part 3.
You will note that the above marks add up to 90. A maximum of a further 10 marks are available based on the marker’s evaluation of your work as a whole. These marks would take into account the level of critical analysis and insight displayed, the quality of the underlying research, the coherence of key arguments and style of presentation, and the extent to which it is a credible and professional business report that could be viably presented to a Board.
The assignment should have a maximum of 1,500 words (excluding titles, tabulated numbers and appendices). If your report exceeds 1,500 words, then your mark will be based on the content of the first 1,500 words only. This is in accordance with the BPP Manual of Policies and Procedures.
Please ensure that all sources of information are appropriately referenced in your report.
You must confirm that you have read and fully understood the rules governing plagiarism when you formally submit this piece of work for marking. Please refer to the General Academic Regulations and Manual of Policies and Procedures which are available on Blackboard within Regulatory Framework of the ‘Academic Registry’ tab. You will find the declaration page you need to append to your report within this assignment briefing.
The final mark for this coursework will be based on the marks for your individual answers, plus the overall group mark, adjusted to reflect your peer assessed contribution. There is an example overleaf showing how this might work. The pass mark for this module is 40%. Your grade for this module will be 50% from this group assignment and 50% from your examination.
Example of completed peer assessment form
Recommended Contribution Mark out of 5 Comments (optional)
John 5 Great Team player. Organised all of the team meetings. Led the team in planning the project.
Mary 4 Fully contributed. Attended all meetings. Volunteered to consolidate paper. Provided great research and supporting information.
Harry 3 Did not come to all meetings. Limited contribution towards the end of the project.
Jones 0 Did not attend any meetings and was not engaged in the project on any level.
The hypothetical example below shows how final grades might be calculated based on the combination of peer assessment and submission grades:
Group Member Peer awarded mark for contribution to groupwork Adjustment factor to groupwork mark Mark for groupwork (out of 65) Student mark for group element of project Mark for individual element (out of 25) Holistic mark (out of 10) FINAL SCORE
John 5/5 100% 50
50 25 7 82
Mary 4/5 85% 50 43 20 4 67
Harry 3/5 70% 50 35 15 6 56
Jones 0/5 40% 50 20 10 2 32
PRO-FORMA TO BE SUBMITTED WITH ALL WRITTEN WORK
Student Reference Numbers (SRN): [INSERT YOUR STUDENT NUMBERS]
Programme Title BSc Business with Finance
Module Title: Corporate Finance, Mergers & Acquisitions
Cohort Number: (i.e., When did you start) [INSERT DATE]
Assignment/Work Title: Summative Assessment
Due date for submission:
(Please attach the confirmation of any extension received)
19 December 2014
We have read the published guidance available on the student intranet (VLE- Academic Registry) outlining BPP’s Mitigating Circumstances policy and we confirm we are not aware of any medical or other mitigating circumstances that may have impaired our completion and/or submission of this assessment.
Student Reference Numbers: _________________ Date: ______________
Declaration of Original Work:
This is our original work, researched, undertaken, completed and submitted in accordance with the requirements of BPP Business School. The word count, excluding Contents Page, Bibliography and Appendices, is __________ words.
Student Reference Numbers: _________________ Date: ______________
The date is September 2014. You are the Chief Financial Officer of Weddon plc and must attend a meeting with the Board in two weeks’ time. You are required to produce a business report ahead of this meeting which will help the Board make some decisions in relation to its current strategic options.
This report should be presented in a format appropriate to a formal Board meeting. You may decide to provide your analysis in the form of a structured business report, briefing note or presentation using Powerpoint slides.
Whichever format or presentation style you choose, you should provide your key analysis and conclusions in the main body of the report/presentation and refer to any relevant supporting data or calculations in the Appendices.
Background to Board meeting
Weddon plc (“Weddon” or “the Company”) is a diversified chemical company quoted on the London Stock Exchange. The chemicals industry is generally divided into two main sectors: “specialty chemicals” and “commodity chemicals”. Commodity chemicals are also described as general, non-specialty or bulk chemicals. Where a company is “diversified” in the chemicals industry, it is likely to mean that the company has both specialty and commodity divisions.
An introduction to Weddon’s business is shown in Appendix A.
Weddon’s share price has risen from 102.60 pence to 145.40 pence between February 2014 and September 2014. This growth is ahead of the FTSE250 index and has been ascribed to speculators who have noticed that the Company’s market capitalization is below its net assets, and are banking on Weddon becoming a potential takeover target.
This is a real worry for the Board. Active institutional investors have expressed disappointment with the company’s “muddled strategy” and “dilution of brand strengths”, which they feel arises from the mix of specialty and bulk/commodity chemicals within Weddon’s portfolio of divisions, in spite of a major restructuring programme which has been running for the last few years.
The CEO, John Scott, recently commissioned a group-wide review of the Company’s strategy and performance, set against the background of its market and economic environment. Extracts from the Executive Summary of this review are shown in Appendix B.
The Board now needs to consider the actions it must take to maximize shareholder value and has three possible options it might consider:
• Option 1 – Divest the Pigments (commodity coatings) division. This would raise useful cash and see Weddon reclassified as a specialty rather than diversified chemicals business. It is likely to be popular with institutional investors who would consider it a clear strategy, but Mr Scott is worried that any reduction in Weddon’s size could lead to a higher risk of takeover. He is concerned about the upheaval of selling such a large division immediately after all the recent restructuring activities: “We haven’t even reached target profit yet on that business”. Finally, he believes the prospects for successfully selling a commodity chemicals business in 2014-2015 are poor.
• Option 2 – Bid to acquire Dovedale Chemicals Limited (specialty chemicals). This is a highly attractive business with a number of valuable product patents. It is being sold by a private equity investor. There will be plenty of competition to buy the business and the price is likely to be very high. Dovedale’s investors have appointed an advisory firm to sell the business, and a vendor due diligence report has been prepared. Bids are invited by the end of the month. Such an acquisition would certainly require Weddon to raise further capital, which might be challenging in the current investment climate. Further information on Dovedale Chemicals is shown in Appendix C.
• Option 3 – Do nothing, concentrating on rebuilding Weddon’s core business after so much recent restructuring, and focusing on generating projects with a positive net present value within the current business structure.
Outline of CFO’s business report
Use the questions below as a framework to discuss the main areas of concern facing the Board.
PART 1 – GROUP WORK
1. Explain whether you agree or disagree with the CEO’s assumption that the prospects for successfully selling a commodity chemicals business in 2014-2015 are poor. You should support your argument by researching relevant mergers and acquisitions trends, pricing multiples, commentary and forecasts for 2012 – 2015.
2. Calculate and comment on a range of possible sale valuations for the Pigments division based on the division’s EBITDA of $12m. Your range should include:
a. The minimum price at which you believe Weddon should sell the Pigments division based on its current share price and price earnings ratio;
b. A potential valuation developed from what you consider to be the most relevant pricing multiple you identified in Question 1.
3. Discuss how Weddon’s share price might react to the announcement of a sale of the Pigments division.
4. Evaluate the strategic rationale for an acquisition of Dovedale Chemicals. This discussion should demonstrate that you have considered the market, economic, financial and shareholder value issues that Weddon is seeking to address.
5. Recommend a level of “maintainable earnings” which should be used for the purposes of valuing Dovedale Chemicals. You should comment on at least TWO areas of potential sensitivity you considered in making your recommendation.
6. Propose a range of potential valuations for Dovedale Chemicals based on the maintainable earnings figure you recommended in Question 5. Your range should include:
a. The maximum price which you believe Weddon can pay based on its current share price and price earnings ratio;
b. A valuation (or valuations) developed from relevant mergers and acquisitions data for specialty chemicals companies.
c. The identification of TWO possible competing bidders, with an estimation of the price those companies might be able to pay for Dovedale Chemicals.
You should explain any source numbers, adjustments or assumptions you have made within your calculations.
PART 2 – INDIVIDUAL WORK
7. Assuming that Weddon did decide to sell the Pigments division, identify TWO practical challenges which would need to be managed during the divestment process, recommending appropriate strategies to address these issues.
8. Three issues are identified in the due diligence report for Dovedale Chemicals. State which ONE of these issues you consider to be the most significant for consideration by the Board and advise how it might be addressed at this stage of the bid process.
9. In no more than 250 words, recommend a course of action, based on the three possible options given and your analysis in Questions 1-8, which you believe will best enhance Weddon’s shareholder value.
The questions shown above provide a maximum of 90 marks. Further marks, up to a maximum of ten (10), will be awarded based on the level of insight displayed in your analysis and the clarity and professionalism of your presentation.
Information on Weddon plc
Weddon is a global chemicals company with operations worldwide that serve customers in North and South America, Europe and Asia Pacific in a wide range of markets and sectors.
The chemicals industry is generally divided into two main sectors: “specialty chemicals” or “commodity chemicals”. Other descriptions of “commodity chemicals” include general, non-specialty or bulk chemicals. Where a company is described as “diversified” in the chemicals industry, it is likely to mean that the company has both specialty and commodity divisions.
Weddon is considered a diversified chemical company. The business comprises five divisions: Specialties (additives), Chromium, Pigments (coatings and resins), Durham Carboxylates and Specialty Rubber. It employs over 3,000 people at more than 30 locations worldwide, and is also one of the world’s largest chromium producers. The Pigments division produces industrial coatings. Other than a sixth non-core division (chemicals distribution) which is in the process of being sold, Pigments is the only commodity chemicals division in the Group.
Appendix B contains the Executive Summary of the group-wide review instigated by Mr Scott.
The current share price (September 2014) is 145.40 pence.
There are 352.25m shares in issue, giving the group a market capitalization of £512.17m.
Relevant ratios on the 2013 year end results are:
P/e ratio 11.19 times
Earnings per share 12.99 pence
Dividend paid 5.06 pence
Dividend yield 3.48%
Payout ratio 50%
Dividend growth rate (average over 5 years) – 6.5%
The group has an effective tax rate of 18.5%.
1.1. In recent years Weddon has faced a number of significant challenges. Trading deteriorated rapidly following the 2008 financial crisis and major downturns in some key markets in the US and Europe, and the Group issued a profits warning. Much management time was spent acting to mitigate the impact of the downturn in trading and establishing better relationships with institutional shareholders and analysts. Strategic action was taken to reduce costs, improve systems and dispose of old or non-core assets.
• The core Chromium division was notably inefficient and failing to achieve Group aims. Following unsuccessful senior management changes, in 2010 John Scott took on the role of “interim” Chromium CEO. It took several years for this division to find its feet before John Sumpter was appointed CEO in May 2013.
• Specialty Rubber, organised as a “mini-conglomerate” within the Group, downsized its physical presence dramatically, reducing the number of sites from 25 in FY2011 to 12 in FY2013. This has just completed.
• All of this was occurring whilst the process of preparing the Chemicals Distribution for divestment was underway. As part of the vendor due diligence on this division, a substantial fraud was uncovered, and legal action has been taken, although at a high cost to the business, both in terms of money and time.
1.2. As a consequence of the major reorganisation and restructuring of the Group, substantial exceptional (non-operating) items have been reported in the last two years (FY2012: $9.7 million and FY2013: $4.5 million). The disruption to the business has also been substantial and although major cost savings have been achieved, the full benefits of management’s actions are only beginning to be realised.
2. OPERATING STRUCTURE
2.1. The Group has historically published results in Sterling for UK statutory reporting purposes (as a UK listed company). However, approximately 70% of Group sales are denominated in US dollars. The Group therefore prepares its management accounts in US dollars.
2.2. The Group’s current operating structure is summarised below together with FY2013 sales, EBITDA and average employee numbers. Note that FY2013 divisional sales are stated before inter-divisional sales eliminations of $13.7 million.
3. GROWTH DRIVERS
3.1. The key business drivers in each of the divisions, and the characteristics of the markets in which they operate, is shown below:
4. HISTORICAL TRADING RESULTS – GROUP
4.1. No acquisitions or disposals have occurred in FY2012 or FY2013.
4.2. The FY2011 results were adversely impacted by the continuation of the recession following the financial crisis together with various specific factors affecting the divisions. Chromium faced a significant increase in competition from Russian competitors, and a downturn in the aerospace sector reduced demand for metal grade oxide products. Specialties and Specialty Rubber were adversely impacted by reductions in oil drilling and mining respectively.
4.3. The historical results show an overall static, even declining pattern in sales. There is a sharp fall in contribution margin % in FY2013. Whilst variable costs are considered to be flexible with sales, the margins across the Group are suffering as a result of price competition and supply issues.
4.4. The apparently small increase in sales in FY2013 of 0.6% over FY2012 is distorted by the impact of exchange rate fluctuations. At constant FY2012 exchange rates, the sales increase in FY2013 was 3.5% compared to the reported increase of 0.6%.
4.5. Whilst the bulk of the Group’s business is transacted in US dollars, the Group has a net inflow of Euros, and a net outflow of Sterling.
UNDERLYING EBITDA – BY DIVISION
We set out opposite the split of the Group’s reported EBITDA by division and a summary analysis of one-off and non-recurring items impacting the underlying EBITDA of the Group. In summary:
• UK pension credits of $6.4m in FY2012 and $6.0m in FY2013 are included in head office costs. We reversed these pension credits to provide a consistent basis of comparison.
• In FY2012 there was a one-off credit of $1.1m on the US Post Retirement Medical Plan as a result of one-off changes to the terms of the scheme as set out in the pensions report.
• Chromium includes an insurance receipt in FY2013 of $0.8m.
• Pigments includes an illustrative adjustment to include the costs of pickle liquor ($1 m) which was previously supplied to Pigments at no cost, and $1m add back of extra transportation costs as a result of production problems.
• Pigments legal costs of $1.5m in FY2013 relate to patent and IP disputes.
• Specialty Rubber has been adjusted to exclude the cost overrun arising in Engineered Systems and to adjust for an error in inventory accounting in FY2012 and reversal in FY2013;
• Head Office non-recurring items mainly comprise the UK pension credit ($6.0m in FY2013), and the release of the rent deficit provision in respect of One Great Tower Street ($2.1m in FY2013).
The overall impact of the adjustments to EBITDA is to reduce EBITDA in FY2012 by 6% and FY2013 by 6%.
Dovedale Chemicals Limited
Dovedale Chemicals Limited (“Dovedale”) is a specialty chemical business. It manufactures rheological additives and pigment dispersions, supplying coatings, inks, adhesives, construction, and other industries. It has market leading positions in three of its customer segments, strong margins and an attractive portfolio of patents, some of which are incorporated in current products, and the balance are still at product development stage but forming a promising product pipeline. Based in the US with subsidiaries in Germany, France and Brazil, Dovedale employs just under 1,000 staff worldwide.
Financial data is available as follows:
FY2012 (act) FY2013 (act) FY2014 (f’cast)
Revenues $154m $176m $202m
EBITDA $37m $46m $59m
Depreciation, short-term interest and tax* ($31m) ($23m)** ($25m)**
Profit/(loss) after tax* $6m $23m $34m
Dividends payable $3m – –
Net assets $95m $118m $152m
Net cash flow (before financing) $8m $21m** $29m**
**The cash flow and interest payable in FY2013 and FY2014 has been restated to eliminate interest paid on long-term debt which will not form part of the company when sold (relates to the financial structure imposed by the financial investors). FY2012 includes the interest on long-term debt. Interest charged on short-term working capital finance will pass with the company.
Dovedale is owned by a financial consortium of investors. These investors wish to realise an exit and have appointed a well-known investment bank to act as adviser on the sale of the business. An information pack and preliminary due diligence report has been produced as part of the formal auction process. Weddon has received both of these under a confidentiality agreement. Access to the company is not permitted ahead of a first bid, all communication is via the adviser and the bid deadline is looming.
On reading the due diligence report, the following critical issues were identified:
• There is a contingent liability in the Brazilian subsidiary for sums due on a chemical spillage three years ago. The matter is in the hands of the law and unlikely to be resolved within 12 months. Dovedale’s management estimate the potential exposure to be up to $3m.
• An actuarial review of the pension scheme suggests that Dovedale needs to increase its future contributions by $2m p.a. to ensure its pension liabilities are covered.
• One of Dovedale’s key products is losing its patent status in 12 months and a price reduction is expected. This could potentially impact profits by $3m p.a. from 2015, and is not shown in the forecasts given.
Weddon has also identified potential cost savings if the business was acquired as follows:
• Head office and central costs – $1m p.a. Available instantly.
• Costs of production in Germany – merge two sites at a one-off cost of $4m but annual cost savings of $3m thereafter. Likely to take effect from 2015.