The aviation business is under fierce attack from some environmentalists as a despoiler of the planet by spewing carbon dioxide into the air. Boeing has responded by using a weeklong air show as a platform to press the message that it is not only striving to be green but is making great progress. “Boeing is pushing so-called "second-generation bio-fuels" as a potential power source for jets that could transform the environmental impact of aviation.” (seattletimes.nwsource.com) Boeing has capitalized on a growth opportunity by developing a bio-fuel made from the byproduct of algae. The creation of this innovative technology advancement has brought positive press to The Boeing Company, increased stock values by almost 34%, and an increase in manufacturing orders.
After a three-year boom in sales, the U.S. plane maker has 3,661 aircraft in its order book, worth more than $270 billion at list prices, to be delivered over the next six years or so. “Boeing Co. said it has signed a deal with Air China for 15 777s and 30 737-800s. The deal is worth $6.3 billion at list prices.” (bizjournals.com)
Lester Electronics, Inc., faces the potential growth opportunity of tremendous sales and profit increases with the acquisition of Shang-wa. The scenario depicts a situation in which the decision to acquire Shang-wa is crucial to Lester’s solvency. The analysis of Boeing’s performance, and future expectations, shows that internal innovation also creates growth opportunities with which to capitalize.
Coca-Cola – Anthony Capone
One of the fundamental concepts of corporate finance is that “…the purpose of the firm is to create value for you, the owner. The firm must generate more cash flow than it uses.” (Ross, 2005, p.18) The Coca-Cola Company is similar to Lester Electronics, Inc., of our classroom scenario, in that it must weigh an enormous spending venture against the future increase in cash flow that spending venture may or may not bring. Ultimately, it is a vital decision for the executives to make when considering potential on a global scale. For Lester, the decision is whether to acquire Shang-wa, or risk losing 45% of their revenue by allowing Shang-wa to dissipate. Coca-Cola’s situation revolves around the Beijing Olympic Games.
“Estimated at between $75 million and $90 million, the sponsorships underscore Coke's heavy bet on China.” (www.ajc.com) China already is Coke's fourth-largest market, with consumer spending on soft drinks more than doubling since 2001. Executives expect China eventually will surpass the United States as the company's top market. The spending blitz, and heavy marketing, in China specifically for these games comes at a time when resources are scarce and expensive. “Coca-Cola Bottling (COKE) the No.2 Coke distributor says it plans to cut 5%, or 350 workers, to help offset the rising costs of sweetener and diesel fuel.” (fortune.cnn.com) Yet, among the millions of dollars spent, the company remains profitable. “Coca-Cola Company (KO) posted earnings of $1.01 per share, vs. 80 cents a year ago, as revenue rose 17%. The company is planning $400 to $500 million in annual savings from productivity initiatives by 2011.” (businessweek.com) This direct translation of growth, profit, and earnings, is returned to the shareholders of Coca-Cola as seen in the increase of stock price. The history of good decision making has proven beneficial for Coca-Cola, which would also stand with good reason that the marketing risk in China, for the Beijing Olympics, is with good reason.
Eli Lily – Karen Green
Normally a firm takes extra cash to pay out dividends or invest in a project and use the future extra cash as dividends. This all depends on the stockholders desire. Stockholders intentions are to make money off of their investments. If reinvesting the dividends would produce higher return at the same rate, undoubtedly, the stockholder is going to reinvest (Ross, Westerfield & Jaffe, 2004, p. 318). Eli Lilly practices this concept. Eli Lilly and Company is a leading pharmaceutical developer that produces products treat depression, schizophrenia, attention-deficit hyperactivity disorder, diabetes, osteoporosis and many other conditions (Eli Lilly and Company Limited, July, 2008)
Eli Lilly and Company has been in collaboration with SGX Pharmaceuticals since 2003. SGX Pharmaceuticals is a biotechnology company that focuses on drug discovery and development in the area of oncology. The agreement states that Lilly will acquire all the outstanding shares of SGX common stock. The purchase price is approximately $64.0 million (Lilly to acquire SGX Pharmaceuticals, July 2008). The expected rate of return on the stock that Lilly purchased and the cost of capital to purchase SGX Pharmaceuticals have risks involved. Eli Lilly will pay $3 per share for SGX Pharmaceuticals, marking a premium of more than double SGX's closing price of $1.37. Shares of Eli Lilly rose 4.9 percent, to close at $48.46. Shares of SGX quickly jumped to within range of the buyout price in after hours trading to $2.87 (Eli Lilly to Acquire SGX Pharmaceuticals For $64 Million in Cash, 2008)
Lowering the cost of capital through liquidation of stock is one suggestion offered by scholars to reduce risk. Stocks that are too expensive are less liquid than stocks that are traded at a cheaper price. Stocks that are not easily liquidated will reduce to return the stockholder receives. Stockholders demand a high expected return for their investment (Ross, Westerfield & Jaffe, 2004, p. 335). The factors to ascertain the liquidity of stocks vary. Corporations lower the trading cost of their stocks in order to lower the cost of capital. Michael Grey, the chief executive at Lilly says for companies like Eli Lilly and SGX Pharmaceuticals, to find investors is an arduous task and the acquisition was the best option for both companies (Somers, 2008).
India Finance – Eduard Hristache
The volatility in global currency markets has led several Indian companies to sue their banks for losses on foreign-exchange derivatives. April is results season for corporate India, and as the numbers for the past fiscal year trickle in, so do revelations about losses on foreign-exchange (forex) products. Due to forex, some Indian companies may end up with notional, marked-to-market losses of around Rs120bn-200bn (US$3bn-5bn) on forex derivatives. India’s largest lender, the State Bank of India, said on April 22nd that its clients alone are likely to show marked-to-market losses of between Rs6bn and Rs7bn on such derivatives for the 2007/08 financial year.
The first warning came in late November 2007, when software company Hexaware Technologies announced that it would suffer some actual losses on forex derivative deals. However, as more companies have subsequently revealed their own forex derivative woes, it has become clear that the problem is widespread.
Over the past two years, the Indian rupee has appreciated against the US dollar on the back of strong forex inflows and the weakness of the dollar, appreciating about 12% in fiscal 2007/08. At first, the rise of the rupee caught many companies unawares: many IT companies, for example, were badly hit by the sharp depreciation in the dollar, due to inadequate hedging. Companies wanted to minimize the risks of currency fluctuations and make it easier to predict revenues and incomes. They therefore began actively to use forex hedging products.
While hedging is a prudent risk-management strategy, the problem began when companies began expanding into exotic derivatives, which are complex and difficult to understand. Most treasuries, particularly at small and medium-sized companies, may be ill-equipped to understand their intricacies and implications. In early 2007, for example, the rupee was appreciating against the dollar and seemed likely to continue to do so. Therefore banks sold contracts that gave exporters the right to sell their future dollar export earnings at a large premium to the then-prevailing spot rate. However, the banks also sold them exotic cross-currency derivatives that swapped dollar liabilities into low-interest-rate currencies such as the Swiss franc and the Japanese yen, chosen for their stability against the dollar. These contracts exposed the companies to risk and gave them exposures that were much larger than their original export exposures. Companies were unconcerned, since they were actually making money on these instruments as long as the dollar remained relatively stable against these currencies.
The real trouble began when revelations about the US sub-prime crisis and the resulting turmoil began to emerge and the dollar depreciated against previously stable currencies like the yen as well. The volatility in the global currency markets left Indian companies with large marked-to-market losses on their derivative contracts. For smaller companies, the losses are large in relation to their own size. For example, in the quarter ended December 2007, Hexaware Technologies took actual losses of about Rs1bn on its forex contracts, reporting a net loss of Rs810m. That was a big hit for the company, considering that its total net profit for the previous fiscal year 2006/07 was about Rs1.1bn.
Omnicare – Karen Green
Shareholders receive dividends at year end as a return on an investment. The total dollar return on the shareholders investment is the sum of the dividend income and the capital gain or loss on the investment (Ross, Westerfield & Jaffe, 2004). Omnicare, Inc., is among the nation's leading providers of professional pharmacy, data management services for skilled nursing, assisted living and other institutional healthcare providers. They also offer services for hospice patients in homecare and other settings for the elderly.
According to (FinancialWire), February 15, 2008, the board of directors at Omnicare, Inc. declared a quarterly cash dividend of 2.25 cents per share on its common stock. The dividend is payable March 21 to stockholders of record on March 6 (Omnicare Declares 2.25 Cent Dividend, 2008). “Cash flow from operations for the quarter ended March 31, 2008 was $142.3 million versus $174.8 million in the comparable prior year quarter. Earnings before interest, income taxes, depreciation and amortization (EBITDA) for the first quarter of 2008, including the special items, was $113.8 million versus $138.4 million in the first quarter of 2007. Excluding the special items, adjusted EBITDA in the 2008 quarter was $143.7 million versus $160.3 million in the 2007 quarter.” (Omnicare Reports First Quarter Results, 2008). On Thursday, March 27, 2008, Omnicare, Inc. opened up on the NYSE at $0.35, a below average volume during early trading. The Board of Directors at Omnicare, Inc. authorized a new repurchase program to repurchase shares of Omnicare's outstanding common stock. As of February 29, 2008, is has been reported, Omnicare had 121.7 million shares of common stock outstanding.
Yahoo – Annette Fournier
In a recent letter from Yahoo’s Board of Directors to their Shareholders the Board addresses the concerns raised by the somewhat shady negotiations between Carl Icahn and Microsoft.
Apparently Icahn is pushing for a deal that will not have shareholders interest in the forefront but more of a personal interest in a deal that would generate a fast return on investment for Icahn. After all, he has been known to be a person who looks for deals that could generate fast return on investment which everyone know do not come without high risks. Icahn purchased his shares with yahoo at $25.00 a share only two months ago and has become the driving force on the Microsoft deal ever since hence raising suspicions for everyone in Yahoo.
The Board is also trying to explain to their shareholders that they have other deals on the table like a possible merger with Google which has the potential of increasing not only their share value but also create a positive cash flow for them as well. In addition, they do not discard a deal with Microsoft however they want to take things to afford Microsoft some time to demonstrate their ability to remain competitive in today’s market based on recent facts that demonstrate a declining trend despite having invested millions in recent times. The Board proposal to Microsoft is a simple straight forward one: First Yahoo will sell to Microsoft only if they are willing to pay $33 per share and provides Yahoo with proof of their ability of closing the deal. Second the Board will remain open to sell to Microsoft if they present an offer that would provide real value to the stockholders and resolves the substantial execution and operational risks associated with the sell. Taking things easy will ultimately ensure a deal that would benefit everyone while maintaining Yahoo’s well respected position in the internet world.
Taking all precautionary measurements are the responsibility of the Board to their shareholders and will ensure a fair process eliminating a transaction that may be seeking to eliminate a competitor rather than expanding a business relationship.
The paralleled analysis of these six companies (American, Busch, Boeing, Coca-Cola, India Finance, and Yahoo) exhibits the necessity of mastering fundamental corporate finance concepts. Each of the selected companies has shown masterful processes in maximizing shareholder wealth, as well as displaying an innovative sense of growth. Following is a detailed analysis of specific core content areas which will relate to the class scenario of Lester Electronics.
Analysis – Lester Electronics, Inc.
The history of American Airlines shows us growth and profit maximization. Since January 1930, when the corporation was formed, American Airline merged and formed alliances with different companies in order to stay competitive and to increase shareholders wealth. Merging with other companies allowed American Airlines to increase their market power as well as their stock value. At the same time, on September 20, 2006, the company had signed a 5-year service agreement with the U.S. Postal Service potentially worth $500 million in revenue to American, which is the largest single contract ever awarded to American's Cargo division. These actions are a result of American executive’s actions in order to increase company net present value and shareholder’s wealth.
Lester Electronics can learn some important facts, in terms of mergers and increasing company value, from American Airline history. Since Avral Electronics has an interest in acquiring Lester and Transitional Electronics Corp has an interest in acquiring Shang-wa, Lester and Shang-wa can create a partnership to increase their market power and company value. At the same time Lester and Shang-wa, should look into new long term contracts to increase the net present value of the company. This may not be enough to stop Avral and TEC from taking over Lester and Shang-wa but would at least increase, for the moment, the stock value and shareholder wealth. Likewise, as with Boeing, Lester can expand on their market share by developing new technologies as well. Currently, Lester stands to lose upwards of 45% revenue over five years if Shang-wa is acquired by another source. The level of dependency could spell doom for the company. Boeing remains profitable through its innovation and solvency. Lester has the potential of doing the same.
In the scenario, LEI and Shang-wa are faced with the tough decision of either sell to Transnational and Avral, or establish a partnership to keep their business rolling and to keep exclusivity to each other and maintain their position in their respective business markets.
An example of what a firm deals with when selling its business can be clearly demonstrated with the case of Anheuser-Busch and InBev. Anheuser was purchased by InBev; but the new owner is faced with liquidation of assets in order to pay debt and increase cash flow (Foust, 2008).
The text states that a company can come up with different sources to come up with and use cash. “A decrease in networking capital or fixed assets leads to a decrease in cash, or an increase in long-term debt or equity can lead to an increase in cash” (Ross, Westerfield & Jaffe, 2005, Ch. 26).
With the Anheuser-Busch case we can see how Brito uses financial leverage in order to invest in Anheuser-Busch as debt is an important form of financing and provides a significant tax advantage because interest payments are tax deductible, although this can cause some conflict between creditors and equity investors. Creditors lean towards less risky ventures than equity investors” (Ross, Westerfield & Jaffe, 2005, Appx. 2A).
In the case with Yahoo! we can observe the how shareholders can control managerial behavior. We can observe that Yahoo shareholders want to sell to Microsoft to get fast and good return.
On the other hand, we can see how the executive board is trying to keep Yahoo in business and at the same time thinking about wealth maximization, by asking the shareholders to allow more time to the board, so that they can present a better wealth maximization plan, keeping in mind Yahoo’s reputation in the Internet business. In Yahoo’s situation, although shareholders have in mind wealth maximization, their move can be observed as profit maximization than wealth maximization.
Yahoo’s executive board is trying to act on the best interest of the shareholder, who have been “brainwashed by Carl Ichan, that selling to Microsoft in the best move” (Bostock & Yang, 2008).
In comparison to the scenario we can see that both LEI and Shang-wa and Yahoo and Microsoft, are dealing with the preassure of making the best decision in the best interest of the shareholders, that although, have similar ideas to wealth maximization, both companies are looking at different approaches on how to achive so.
Yahoo’s shareholders are looking for themselves, but its executives are working in the best interest of the shareholders and the company.
References
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