Corporate Valuation Strategy - Case Study Example

Corporate Valuation Strategy Prepared by Submitted to Word Count 3448 words (excluding content and reference pages) 1. Introduction An acquisition may be expensive if the things go opposite to our estimation. The rise and fall in the share prices will affect the budgets of acquisitions for Sainsbury. The speculations about the acquisitions may cause hurdles or increase of competition for the deal. If the company which we wanted to acquire is against the deal, there is a chance of increase of competition for buying shares from the board of directors of the company. One may observe a steep increase in the price of the share of the M&S if Sainsbury wants to acquire and can be termed as an opposition for the acquisition. In case of merger, the Sainsbury has to estimate the pros and cons of the deal. The change of brand value, the results and consequences of co branding can be evaluated. If the co branding is sufficient, then the merger idea can be dropped. In case of acquisition, there is a chance for a fall in share price M&S. This may due to the selling spree of the share holders of M&S in the atmosphere of increase of share price. This can be detrimental for a company that wants to grow with acquisition. In these conditions the company should offer a price that is higher than the market price for each share it wants to buy to acquire another company. When this happens, the share holders have no other way except selling shares to the company that acquires another. In this case there is chance of increase in the valuation of the combined company after the acquisition. As the company is offering share price more than the market value, the share price of the combined company will increase than the average share price of the companies before acquisition. This results in the increase of the valuation of the company. This valuation should be protected or enhanced by utilising the technological and infrastructure available after acquisition. (J Froud et al, 2000)1 2. Strategic fit of M&S for Sainsbury The M&S Company can be considered as a strategic fit for Sainsbury. This opinion is due to the fact that the company is Food retailer and having a bank to cater the financial needs of the customers and the people. M&S is a company having diversified products like, linen, clothes, furniture and food and drinks. This makes Sainsbury to increase its scope and area of marketing and can diversify its products. The idea of increase of the scope of the Sainsbury arises from the company profiles of Sainsbury and M&S that both the companies have different capabilities of marketing. Sainsbury is concentrating on Food retailing and can extend its scope to clothing by acquiring M&S. The diversification can be extended to the marketing also. According to the company profile of Sainsbury, the company is not involved in the marketing of clothing and the acquisition of M&S can make this possible. This is due to the fact that the M&S and Sainsbury market their products in a different way as they are lesser similarities between them. Though M&S also markets online, the Sainsbury has a speciality online marketing. If these marketing strategies can be extended to the M&S products also after acquisition, there is a larger scope for the success of new brand and range of products. Sainsbury can extend its presence to clothing and furniture and the Marks and Spencer can diversify it already existing food products. The investment opportunities and portfolio management done by Sainsbury can be extended to the M&S assets also if the acquisition is done. These things are the advantages of the acquisition if it happens. The beta of Sainsbury is 1.03 and is nearly equal to the market risk but not much more than that. (details taken from London stock exchange and are viewed on the site http://stocks.us.reuters.com/stocks/overview.asp?symbol=SBRY.L). As the M&S is having another product that the Sainsbury is not having (clothing) there is a chance of decrease of market risk and thus a decrease in beta. Another important aspect of the M&S is that the company is having more profitability than Sainsbury. This can be evident from the fact that though the Mark and Spencer is having less turnover than the Sainsbury the profit is more than the latter. This may due to the uniqueness in the products or the cloth and linen business it is doing. Though the turnover of M&S is approximately 3 times less than that of that of Sainsbury, the profit before tax is more than double that Sainsbury is earning. The earning per share ratio is more 10 times more for M&S than Sainsbury. (The information is supported from the companies’ financial reports) ( Annual Report, 2007)2 The question of acquisition of M&S by Sainsbury may look strategically fit but the question of cash for acquisition arises. This is due to the less profitability and cost effectiveness of the Sainsbury than the M&S. The profit of Sainsbury before tax in 2006 is 351 million pounds and that of M&S is more than 850 million pounds. Due to a larger turnover and more assets than M&S the Sainsbury can mobilise required cash for acquisition as it is maintaining a portfolio of property and a bank. (Sainsbury, 2007)3 Though the net gearing for Sainsbury is more than 60 percent, the gearing ratio in the last financial year is around 37 percent indicating that the company is having enough equity to manage the capital needs. (http://in.advfn.com/p.php?pid=ukfinancials&symbol=LSE%3ASBRY) 3. Value of M&S and Sainsbury For the year of 2006, total equity for Sainsbury is 3,965 million pounds. (Annual Report, 2007). In the same year the total equity for the M&S is 1153 million pounds. (Annual Report, 2007). This puts the value of the Sainsbury at 3,965 million pounds and that of M&S at 1153 million pounds. These are the net assets of the companies and this gives an upper hand for Sainsbury when the company tries to takeover the M&S. The net assets of the Sainsbury are more than that of M&S and these can enable the company to mobilise more cash to acquire than M&S. The enterprise value of Sainsbury is $9.1 billion and its free hold properties are $1.1 billion. As the enterprise value of Sainsbury is defined as the measure of company’s value that is calculated by market acEV is calculated as market capitalization plus debt, minority interest and preferred shares. The total cash and cash equivalents can be excluded. The enterprise value of M&S is $10.6 billion. They have $5 billion as the fixed or tangible assets and the remaining is brand value. In case of Sainsbury, the fixed and tangible assets are of worth $7.5 billion and the remaining is brand value. (Stuart Whitwell, 2007). This implies that the brand value of Sainsbury is less than M&S. In the above mentioned data, the enterprise value of M&S contains $5billion brand value and that of Sainsbury contains only $1.6 billion as brand value in its enterprise value. The assets of Sainsbury are more than that of the former, which give an opportunity of mobilising cash if any acquisition is needed. If the acquisition is possible, the brand value of Sainsbury also may increase and this further increases the enterprise value of the combined company.( Stuart Whitwell 2007)4As the values of Sainsbury and M&S are not very much different, the bigger size of the Sainsbury, its high turnover (though low profitability), more amount of assets than M&S, more liquidity will put Sainsbury in an advantage over M&S to in case of acquiring it. (The information is supported by companies’ financial reports). As the enterprise value is not much higher than tangible assets for Sainsbury, the cash mobilized for the acquisition may not result in the lack of liquidity problem for Sainsbury. This advantage is not present for M&S as it enterprise value is almost double than the tangible assets and the assets are less than that of Sainsbury. By March1, 2007, the value of Sainsbury is at $9.5 billion dollars and is lesser than that of M&S. This information may sound weak in case of a bid for M&S by Sainsbury. One should not forget that the brand value in the enterprise value of Sainsbury is lesser than that of M&S. Though the enterprise value is slightly lesser than that of M&S, Sainsbury have more valued assets than that of the former. As there firms are in a thought to put an offer for Sainsbury by acting jointly with them, it can escape the bid offer by them and even acquire M&S. One aspect that comes in the way of the acquisition of M&S by Sainsbury is that the low debt and high cash generation capacity of the former than the latter. Though the latter is having high turnover and more amount of assets, the cash generation capacity is more for M&S due to high profitability and cost effectiveness of its operations. In the month of march 2007, the M&S can mobilize $10 billion. This cash can be used in buying shares from the market when Sainsbury considers a bid for M&S. This may halt the process of Sainsbury as it has to invest almost double the share price of the M&S. As the share price of the M&S is more than that of Sainsbury and offering still more amount on its share may increase the share value of the combined company, but it may leave the resulting company in a liquidity problem as the company that is taking over utilizes its cash reserves to a maximum extent. In case of acquisition, the Sainsbury has to even pay for the higher brand value of M&S than that of Sainsbury. In the enterprise value of the Sainsbury, the brand value is only up to $2 billion. This is not the case with that of M&S. It is almost $5 billion. When the infrastructure and assets are considered, in case of acquisition, Sainsbury is paying more than it is getting in form of tangible assets. Regarding brand value, as the company is also a larger and established one, need not spend on brand value. It can increase the brand value in its enterprise value by its operations and activities. Moreover, the acquisition may result in competition and that may increase the bid value resulting in a liquidity problem for Sainsbury. The company has to use its assets up to maximum extent to overcome the competition in acquiring the M&S by offering more than the double the present share price. It can also be warned that the bold move of acquiring M&S by Sainsbury may result in a problem, as the shares of Sainsbury have been on a rise and the acquisition at this time may neutralize that rise. ( Sarah Butler, 2007)5 4. Merger or Acquisition When we think about merger or acquisition, for Sainsbury the former seems to be better. The reasons is though the M&S is smaller company than Sainsbury, the enterprise value is nearer to that of the latter. This compels the Sainsbury to cough out more amount for less valued assets. One more thing is that the M&S is capable and efficient of handling the crisis like bid offers on the company. This is due to the fact that the company is having more cash flows and cash reserves. The figures are provided in the annual financial reports of the both the companies. The remaining cash required to halt or obstruct any bid offers can be mobilized by the tangible assets it have. Though the tangible and net assets are lesser than that of Sainsbury, the cash reserves, more profitability, the cumulated cash from the years of operations will put M&S on a better position to counter the bid offer by the Sainsbury to its share holders. Moreover M&S is in a better position regarding cash reserves and low debt aspect to offer a bid for Sainsbury. In that case Sainsbury will be at receiving end. M&S is having more resources for cash and this makes merger option viable for the company to peruse. In case of merger the size of the Sainsbury and the profitability of the M&S can be considered on par with each other. This aspect will give equal value for both of the companies. The Sainsbury can gain from the brand value of the M&S and the latter can get hold on more valued assets in the combined company. As a result the combined company will satisfy the need of brand value for Sainsbury and the need of assets for M&S. The enterprise value of the combined company will be a perfect blend of brand value and the asset value. The merger needs to be done on the equality basis as both the companies have equal enterprise value. The Sainsbury is having market share in food retailing and the M&S is having market share in clothing. The turnover of the Sainsbury is more than that of M&S and the profits of M&S is more than that of the former. (The information is supported by the companies’ websites).In case of merger both the managements need to consider the aspects that are to be considered on par in the course and after the merger. The M&S is younger than Sainsbury and the latter is having less profitability than the former. The assets of Sainsbury are more than the M&S, but this is due to the time factor of existence. If the M&S exists for more than five years, the assets of it may be equal to that of Sainsbury. This may result in cash crunch and this compels the Sainsbury to value the brand value of the M&S. At the same time, M&S has to consider the option of gaining combined control over larger amount assets in the combined company, which increases the scope of company to expand to new areas and products. The combines supply chain network will give advantage to the resultant company to gain from one another’s experience without any competition. One more aspect that comes in the way of acquisition and may turn opposite to Sainsbury is the share holders of M&S. Though the company offers a better price than the market, the share holders may not consider positively the offer of the Sainsbury. This is due to the fact that they are earning more than the share holders of the Sainsbury. Though they sell their shares to the Sainsbury for a more amount it is difficult to find a company or to get shares in the combined company. The fixed or guaranteed income on the amount invested will be lost. This may raise problems for Sainsbury in case of acquisition. 5. Rise of Finance As the Sainsbury is having more infrastructure both fixed and in cash terms. The mobilizing of funds for the acquisition can be partly form taking loan from the Sainsbury’s bank. This decreases the pressure of being indebted as the debt and interest paid will go the Sainsbury bank, which is a part of group of institutions. The interest paid towards the loan taken will go into the profit of the combined organization and this decreases the future pressure on the organization regarding the profitability of the organization’s activities. As the company is having 14.7 percent market share in Great Britain and Northern Ireland, (the information is supported by company’s website), there is a chance to mobilize some amount of cash for the acquisition from the dealers of the company. This mobilization can be done on the basis of issue of bonds by its bank to its dealers. This attempt also can reduce pressure on the organizational assets as the transactions are making a profit in the deal. This transaction if materialized will make easy for Sainsbury to acquire M&S and even to put part of the profits of the combined company in the account of Sainsbury bank. As it is having successful online marketing and super market stores, the company can introduce schemes and release vouchers that give concession on the products by buying the vouchers for a period of 6 months. In general the company offers discounts on the products bought form the stores and online ways. This can be diverted in the form of a scheme and can make the customer to pay the money in advance for the necessities of the coming six month period. The company can issue a voucher or a pre paid card that gives an account with Sainsbury bank and the money paid in advance can be used by the company to spend on acquisition. After the acquisition, the company may face the situation of paying the customers in the form of products that the customer paid in advance. This can be maintained by getting credit from the suppliers as the company is paying well for them for years. The good will that the company developed from the years of operations can help in obtaining the credit from the suppliers of the raw materials and the production of the goods the customer paid for 6 months in advance can be met. Another way to mobilize finance is to sell the shares up to a minimum extent that are with the management. Though the share price of Sainsbury is less than that of M&S, the share price is substantial when compared to the previous record. This gives a chance for the company as majority of the shares are with the company management and selling a minimum amount of them will not result in loosing the control over the company. 6. Current Effect on Share holders of the company in Case of Acquisition and the Merger In case of acquisition the share holders of Sainsbury will be benefited. The reason is that in the combined company the share holders may get an average of the earnings per share of the both companies before acquisition. This increases the earnings per share of Sainsbury and decreases the earnings per share of M&S in the immediate future. If the company fares better due to the acquisition and the profits increase, there is a chance of getting enhanced earnings per share for the share holders of both the companies. Though Sainsbury is having a bank and good valued assets its cost of finance is more. The interests receivable are 7 million GBP and payable are 10 million GBP. This puts the company in fix in mobilizing the funds for the acquisition. The cash flow in 2006 is 687 million GBP. The assets sold for the operations are of 151 million GBP value. The assets of the company are more than 8902 million GBP but the net assets are only 3965 million GBP. This may result in lack of liquidity to acquire M&S and if it happened, there will be lack of cash for the operations. As the company is paying 364 million GBP for long term borrowings, the cash mobilized for the acquisition of M&S may result in increase in the interests payable.( Sainsbury, 2007)6 This may cause decrease in the profitability of the company and bringing down the earnings per share of the combined company to a point less than the average of the both the companies before acquisition. So in this case the share holders who sell the shares to Sainsbury can get profit on the shares as they can sell for a huge price but there is not guarantee for the share holders of the Sainsbury to increase the earnings per share. In fact it may even decrease the earnings per share of the Sainsbury share holders due to the increase of payments of interests and finance costs. 7. Conclusion As per the discussion in the paper, though it seems to be possible to acquire M&S by Sainsbury, there is a possibility of decrease of earnings per share and profitability. At present the company is suffering from high finance costs and interests payable and this even decreased the profitability of the company. The debt to asset ratio and gearing ratios of Sainsbury are not supporting the acquisition as the gearing ration of Sainsbury is around 60 percent. This indicates the high leverage to debt and vulnerability to pay the interests on debts. The comparison of the financial reports of the companies suggest thtat the turnover of M&S is far lesser than that of Sainsbury but the profit of M&S is more. If the Sainsbury is able to mobilize cash and can acquire M&S, the profitability of the Sainsbury can be increased. This involves increase of debts for Sainsbury and acquisition in these circumstances may cause problem to get cash for the operations of the business and a merger is suggested on equal terms for both the companies. References: 1. J froud, 2000, Restructuring for shareholder value and its implications for labour, Cambridge Journal of Economics, ,electronic, 10-5-07, http://cje.oxfordjournals.org/cgi/content/abstract/24/6/771 2. Sainsbury, 2007, Company Profile, Sainsbury, ,electronic, 2-5-07, http://www.jsainsburys.co.uk/files/pdf/company_profile.pdf 3. Sainsbury, 2007, Our businesses, Sainsbury, ,electronic, 2-5-07, http://www.jsainsburys.co.uk/index.asp?pageid=278 4. Annual Report, 2007, financial statements 2006, M&S, ,electronic, 2-5-07, http://www.marksandspencer.com/gp/browse.html/ref=sc_fe_c_7_1_43436031/026-9800498-0294049?ie=UTF8&node=43848031&no=43436031&mnSBrand=core&me=A2BO0OYVBKIQJM 5. Stuart Whitwell2007, Brand valuation: unleashing the power of the brand; M&S, Intangible Business, ,electronic, 4-4-07, http://www.intangiblebusiness.com/Brand-Services/Marketing-Services/News/Brand-valuation-unleashing-the-power-of-the-brand-MS~331.html 6. Sarah Butler, 2007, Rose says M&S would consider a move for Sainsbury, Timesonline, ,electronic, 4-5-07, http://business.timesonline.co.uk/tol/business/industry_sectors/retailing/article1454769.ece 7. Sainsbury, 2007, Annual report, Sainsbury, ,electronic, 4-5-07, http://www.jsainsburys.co.uk/files/reports/ar2006_report.pdf 8. http://in.advfn.com/p.php?pid=ukfinancials&symbol=LSE%3ASBRY Read More