A Spate of Merger and Acquisition Activities Across the Globe - Essay Example

?Mergers and Acquisitions Table of Contents Table of Contents 2 Overview 3 Strategy of Kraft Inc 3 Regulatory implications 5 Justification of CadburyValuation 6 Financing 7 Defence tactics used By Cadbury 7 Implementation 10 Risk 11 Reference 13 Bibliography 17 Overview In the first quarter of 2010, US based Kraft Foods Inc acquired UK based Cadbury Plc in the biggest overseas acquisitions deal of the year. By virtue of this acquisition deal Kraft Inc aims to acquire a market leadership position in the worldwide confectionary market. This will give the company accessibility to the emerging economies. The emergence of recent trends like privatisation, increased deregulation and corporate restructuring has brought about an unprecedented surge in the overseas merger and acquisition deals. The companies are keen to reach out to a global customer base in a bid to respond to the increased pressures of achieving scale (Finkelstein, 1999, pp.1). This is also one of the motives in the case of Kraft and Cadbury deal as it will open new markets for the company. A thorough analysis of this deal covering aspects like long term strategies, regulatory implications, financing, defence mechanisms etc has been presented in the paper. Strategy of Kraft Inc Recently there has been a spate of merger and acquisition activities across the globe with the ‘bidder’ taking advantage of the low ‘target’ valuation. Besides the low valuations the other incentives in a merger and acquisition deal are tapping developing markets, acquiring access to the customer base of the target company, capitalising on the good-will of the target, generating business synergies etc. The global growth strategy of Kraft Foods is also based on the aforementioned objectives. By way of this strategy the company is anticipating an organic growth in its revenue base by 5% or higher; accompanied by a growth of 9% to 11% in the earnings per share (EPS) placing it in a good stead in the worldwide food industry. Irene Rosenfeld, Kraft Foods Chairman & CEO, takes pride in the market positioning of the company which has now entrenched itself as “global snacks powerhouse” based on its unparalleled portfolio of leading local and regional brands. By virtue of this unique combination and its significant market presence in the emerging markets the company is expected to register a consistent growth. The global growth strategy has enabled Kraft to lay the foundation for strong growth. The company aims at taking its performance to a higher level by leveraging on its scale and investing strategically in sales, marketing, innovation and create a high-class cost-structure. The acquisition of Cadbury has made Kraft Food an undisputed leader in Snacks, a high-margin and high growth category which comprises more than fifty percent of the total revenue of the company. The Snacks portfolio of the company is complemented by iconic local and regional brands in grocery, cheese, beverage etc. A majority of these iconic heritage brands are placed in top positions and is the favourite of the consumers who tend to be extremely loyal towards these brands. They generate high margins and have robust cash flows. The popular heritage brands offer Kraft Inc the unique opportunity of investing profits from its stable cash rich businesses to fast growing and high margin yielding developing markets. Kraft and Cadbury combination offers the scale required to grow distribution and sales in existing and new markets. The company anticipates revenue synergies and cost synergies to the tune of $1 billion and $750 million by 2013. Based on its anticipated growth in EPS and organic revenue Kraft Inc aims at becoming a top-rung performer in the food industry (Kraft Foods Inc.-a, 2010). Regulatory implications The takeover of Cadbury by Kraft has been spoiled by the controversy surrounding the closure of Somerdale factory thereby creating sentiments of mistrust in the manner the Kraft is held. Now the company faces a stiff challenge in restoring its image in UK. The evidences gathered from Kraft gives positive signs on the company’s intention regarding Cadbury’s workforce, brand management and the various philanthropic activities that mark the company. The Chairman and CEO of Kraft, Irene Rosenfeld has personally endorsed these commitments. Besides they are now a part of the public domain and will be a close scrutinized over the coming years. In order to restore its reputation in UK it is important that Kraft delivers on all its commitments. A lapse on any of these commitments or any evidence of transfer of support management or other functions such as the transfer of high-class R&D facility of Cadbury from UK to US would amount to breach of commitment. BIS Committee has recommended the “Department for Business Innovation and Skills” to monitor the compliance commitments of the company. The government will keep a check whether Kraft fulfils its commitment besides monitoring its conduct as an owner of UK’s most reputed and historic companies (Secretary of State for Business, Innovation and Skills, 2010). As per EU laws the companies involved in takeover deals must give fair and correct information to the investors. The companies failing to do this are censured by the Panel. The action of Kraft on Somerdale factory has earned it a bad name in UK. Though the information relating to factory closure was not a crucial factor in winning shareholders consent the Takeover Panel strongly advocated that the companies should not indulge in job or factory promises without conducting adequate research so as to ensure its actual fulfilment (Rigby & Masters, 2010). Justification of Cadbury Valuation Kraft Inc put the final valuation of Cadbury at ?11.9 billion. The shareholders of the company were offered cash of 500p and a share in the stock of Kraft Inc. This put the total value of Cadbury at 840p. The Chief Executive estimated the real value of the company to be ?10 per share. Some shareholders expressed their desire of obtaining a value of more than ?9 per share from the acquisition deal. However Roger Carr, Chairman of Cadbury conceded the deal to be a ‘good one’. Mr Carr had lambasted the initial offer of Kraft as ‘derisory’. Initially Kraft had offered 755p per share but later on the cash element was revised to make the offer attractive. Finally, the agreed offer price was 840p per share which was more than the market price prevailing prior to Kraft’s offer by 48pc (Ruddick, 2010). Therefore the shareholders of Cadbury received a proper valuation of their ownership interest in the company. However the high costs incurred on Cadbury acquisition led to a drop in Kraft’s quarterly profit by 24%. The operating income of Kraft for the fourth quarter of the financial year 2010 was impacted to the tune of 26.9% due to the integration of Cadbury (AOL (UK) Limited, 2010). The earnings of the company soared at the end of the first quarter of 2010. This was facilitated by strong brand sales like Dairy Milk Chocolates and Trident chewing gums which Kraft acquired in the acquisition of Cadbury. The sales increased at Kraft’s existing facilities as well as in the acquired facilities of Cadbury (Cordeiro, 2010). However, the management of Kraft expressed concerns of a challenging operating environment in the next financial year. The profits of the company may get impacted by the high inflation in the ingredients costs and sustained consumer weakness in various markets (AOL (UK) Limited, 2010). Financing Kraft valued the Cadbury deal at ?11.9 billion. The shareholders of Cadbury have been given a cash offer of 500p and 0.1874 stock of Kraft for each share owned. This puts the value of Cadbury to 840p per share and the shareholders will receive special dividend of 10p (Ruddick, 2010). The company secured a “senior unsecured term loan” of $9.2 billion in order to finance its hostile takeover of UK’s Cadbury Plc. The proceeds of the raised loan were used to acquire Cadbury. Besides this some amount of the loan has been used for refinancing the debt of Cadbury as per the filings with the US SEC (Securities and Exchange Commission) Deutsche Bank Securities, Citigroup Global Markets, and HSBC Securities (USA) Inc acted as joint bookrunners. As per the filing with SEC, Citibank and Deutsche Bank performed the role of co-administrative agents. The list of banks that participated in the credit facility includes Deutsche Bank AG (London branch & Cayman Islands Branch), Citibank, Barclays Bank Plc, BNP Paribas, HSBC Bank Inc, and Credit Suisse, Royal Bank of Scotland Plc, Banco Bilbao Vizcaya Argentaria and Societe General (Reuters, 2009). In January 2010 had also disclosed its plans to liquidate its pizza business of North America to Nestle for an amount of $3.7 billion. The company planned to use this amount for meeting the cash component of the bid for Cadbury (Msnbc.com, 2010). Defence tactics used By Cadbury Cadbury Plc staunchly opposed the hostile takeover bid of Kraft Inc however the leaders of the company sought for a ‘proper valuation’ for the deal to work-out. The Chairman of Cadbury, Roger Carr, put up a defence against Kraft’s bid by issuing a stern warning to its investors. The company shareholders were warned not to let Kraft take over ‘their’ company. The Chairman of Cadbury described it as a “corporate jewel”. Carr said that the Kraft Inc offer was ignoring its rich past, undervaluing the present and failed to recognise the future. To retain its appeal in the eyes of the shareholders Cadbury announced its long term business prospects besides declaring large share of dividends in the future provided the company retained its independence. The company management insisted on retaining an independent status to provide benefits of remaining under the current control or derive optimum value for giving up control in the company (Wood, 2009). The defence document issued by Cadbury outlined the defence tactics employed by the company. The use of defensive mechanisms like poison pills and clause relating to “change of control” are not a common feature in EU. Besides, rules under Takeover Code prohibit such tactics. An effective way of thwarting hostile bids is to convince the target shareholders to reject the offer. Based on these lines the defence document of Kraft reasoned to reject the offer citing that the offer to be undervalued. In this document the company clearly stated that the action plan of Cadbury had financially strengthened the business. Based on the future business targets the value offered by Kraft was undervalued by 130p. The target companies publish enhanced forecasted profits with the intention of undermining the bidders offer price; a common tactic employed in hostile bids. This was present in the defence document of Cadbury also. To add to the fray there was an emergence of ‘white knights’. Ferrero and Hershey both were considering rival bids. If a rival bid had been made by either of the parties this could have pressurised Kraft to sweeten its bid offer. However the rival offer did not materialise. The defensive stand of Cadbury forced Kraft Inc to bow down and enhance the bid value. Following this the Board of Cadbury recommended the company shareholders to accept the raised share and cash offer that valued the company at ?11.5 billion or 840p each share. Even Carr conceded this valuation to be lucrative for Cadbury’s shareholders (Gill , 2009). From the above discussion it appears that the management of Cadbury were acting in the best interest of the shareholders. Their resistance to the takeover was not aimed at squeezing a higher value. It has been agreed by some analysts that the initial offer of Kraft was ‘low’ (Wood, 2009). The absence of any rival offer suggested that a strong preference for Cadbury to remain independent. Therefore the stand taken by the company management was in the overall interest of its investors. Implementation The merger and acquisition activities bring immediate changes in the organizational ownership, ideology and the cultural environment. Of the various changes ‘cultural change’ is the most important aspect that determines the ultimate success or failure of the merger and acquisition deal. This also impacts the retention of qualitative talent in the newly formed entity. The aim of merger and acquisition activities is to achieve synergies revolving competencies, brands or physical assets but the eventual success or failure of the merged entity depends on the adoption of measures to retain the cultural underpinnings that are the pillars for the valuable resources (Rhodes, 2004). Kraft Foods also has to abide by some commitments associated with the Cadbury acquisition deal. Like the acquirer will not indulge in transfer of the management functions or other support function like the transfer of highly equipped R&D facility of Cadbury to US. The acquirer often sells-off the target business divisions that are loss making or the ones that do not match with the core business activities making management difficult. In 2010 Kraft Foods formed an agreement to sell-off Cadbury’s “Kandia-Excelent chocolate, soft cake, sugar confectionary business” in Romania to Oryxa Capital for undisclosed amount of money. This divestiture involves the sale of Kandla-Excelent brands, associated trademarks and its manufacturing facility (Kraft Foods Inc.-b, 2011). It has been seen that the merger and acquisition deals brings about various job losses due to redundancy which is one of the main reasons that such deals do not gather much support from the target company. This is also a major hurdle that Kraft management faced in integrating the operations of Cadbury. Risk In the merger and acquisition deals the shareholders of the target company are always in a win-win situation as it is said that the management of the target company succeed in extracting the maximum value from the bidder company. The market participants always perceive that the bidder company always ‘overpay’ for acquiring a controlling stake in the target. The aim of such deals is to acquire the customer base of the target but it may so happen that the bidder company may fail to retain the target’s loyal customers. They may not be willing to switch to the product of a foreign entity. Kraft Plc is also expected to face a similar situation in some of the markets of Cadbury. Like the Indian market of Cadbury may not easily embrace another product. The consumer mind-set in India is such that they take a lot of time to embrace new foreign products. So the acceptance of the new brand can take a lot of time in the country. The emerging markets account for 38 percent of the sales revenue of Cadbury. Though Kraft has outpaced Cadbury in terms of revenue in countries like Brazil and China yet in the Indian market Kraft has to lean greatly on Cadbury. The brand Cadbury is nearly six decades old in India. Over the years Cadbury has established itself as the country’s largest confectioner with Nestle holding a distant second position. The chocolate consumption in India is not even half the consumption of the Western countries. In India the chocolate industry has to compete with traditional ‘sweets’ (Wharton School of the University of Pennsylvania, 2010). So Kraft Foods has to face complex Indian markets that are often biased in favour of traditional sweets or take a long time to embrace a Western product. This is a major risk faced by Kraft in exploiting the Indian markets. There is always a risk that if Kraft fails to integrate its acquisitions successfully like the case of recently takeover of Cadbury business the financial results may be adversely impacted. Other than this the company regularly divest the businesses that are not in line with its strategic objectives or that fail to meet its profitability or growth targets. The profits of the company may get affected by the losses or gains on these deals. Besides the divestiture deal may get executed on unfavourable terms. All these can have a significant impact on the future earnings of the company (Kraft Foods Inc.-c, 2010). Reference AOL (UK) Limited. (2010). Cadbury bill eats into Kraft profit. Available at: http://www.dailyfinance.co.uk/2011/02/11/cadbury-bill-eats-into-kraft-profit/ [Accessed on April 15, 2011]. Cordeiro. (2010). Kraft's Profit Soars on Cadbury Acquisition. The Wall Street Journal. 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