Financing and Takeovers: of BT Group - Case Study Example

BT Group Name: Institution: Course: Lecturer: Date: Part 1 Factors Influencing the Share Price 1. Management Profile – this entails the experience, knowledge, skills, successful track record and ethical stance that the management of the respective firm possess. Such profile significantly influences the overall success of the company applicable in determining share prices. If the firm is taken over by the management with excellent reputation, higher prices of shares would be reported. For instance, Steve Jobs (the late) and Tim Cook have been excellent executives of Apple Inc. From their wealth of experience and comprehension of the market, the two gentlemen have steered the company to greater heights. 2. Company Announcements – the announcements get to the public through press releases. In most of the cases, information conveyed via press release is adequate to cause a significant variation in stock price. All quoted companies issue their information through press release. The potential benefits regarding the application of new analytics on releases are sizable. While no individual would ‘digest’ all the information released in the market, companies utilises automated process that sort out important information from the rest. Positive news regarding the company causes large price changes that might affect stock price behaviour in a substantial number of days thereafter (Goteborg 2015). Behavioural finance entails the study of abnormal stock returns persisting for a prolonged period in subsequent to an information event. When good news is released, abnormal security returns float upwards in a period exceeding 60 days. In regard to bad news, the downwards drift is experienced still in a period exceeding 60 days. 3. Financial Disclosure – efficiency within the security market is characterised by underlying principle regarding publicly available information. While firm’s financial statements reveal valuable information related to their current standing, investors require the information that necessitate them make informed decisions. In this regard, a number of successful companies implement full disclosure policy while applying accounting standards, with an example of Management Discussion and Analysis (MD&A). In the presence of disclosure, firms possessing high-quality investment projects benefits with higher prices for their stocks (Norden & Weber 2009). 4. Valuation, Risk Vs Returns – after being interested in a company, investors ascertains the value of the company by assessing its current as well as expected prospects. For instance, venture capitalists often apply discounted cash-flow models in valuing the companies. Moreover, the capitalists apply venture capital method in assessing value of private companies. In this respect, the future earnings and risks are forecast into the future, when the firm is expected to run public. The earnings, price-earnings multiples and risks, which are ascertained by performing comparative analysis of one specific company to the other publicly traded firms within the same industry, plays an important role in determining potential share price of the firm (Chen, Goldstein & Jiang 2007). CAPM model is applied to explain relationship of efficient market price, rate of returns desired on a security and risk. The rate of return is obtained by adding the price of a share during the period end to the dividends paid. The result is divided by share price during the initial period, and afterward, subtracting one from the answer. CAMP depicts relationship between risk, returns and market price via this formula; E (Rjt) = Rf + Bj [E (Rmt) – Rf]. Rf stand for rate of return in respect to risk-free-asset. Bj stands for beta of security while Rmt denotes return of the portfolio for specific period t. 5. Information Asymmetry – security markets are prone to information asymmetry challenges. It becomes evident sometimes that insiders possess more information about the firm’s true quality, than the outsiders through insider dealings. A possibility arises then that insiders are more likely to take advantage of the situation to earn surplus profits. Investors know about this possibility and often lower the expected amount willing to pay for each unit of a share. Thus, security markets do not always work as deemed. Financial reporting acts a way of curbing selection problem, and hence improving operations of the security markets (Norden & Weber 2009). 6. Market Prices – the overall notion that market prices replicate information available is described by decision theory. The rational and informed investors are likely to demand all available information and data concerning securities. However, decision theory never guarantees that individualised investor’s decision will turn out similar. Each decision of investor will differ in respect to prior beliefs. Market efficiency in this regard is when security prices account for all available information. Under ideal situations, investors are able to assess free information that necessitates them make amicable decisions concerning security prices within the market. Under non-ideal situations, such information is never available or free and hence investors are left with a chance of conducting cost-benefit-analysis to decide the magnitude of information they need to formulate rational decisions (Chen, Goldstein & Jiang 2007). I agree with my friend’s comment. Corporate reputation impact stock prices dramatically. Apparently, investors always aspire to invest in a company that is heading in the right direction. Moreover, they (investors) gauge the profitability of the company in respect to the products and services that the company is dealing with. As discussed above, existing and potential investors will consider different factors which will influence them buy shares in a specific firm, rather than the other. This include experience and education level of the top management, company’s reputation and profitability, ease of accessing company’s information, market prices, value and expected returns of the firm as well as capability of dealing with information asymmetry problems. Part B BT Group is a holding company that owns British Telecommunications. It is a British owned firm with its head-quarters in the United Kingdom. The company is listed in the London stock exchange. Share Price This is the value attributable to a single unit of a share. The share price for BT Group has been experiencing unstable fluctuations. In April 2014, the share price closed at 369.5 pounds compared to 450 pounds, the same period in 2015. This period recorded an increase in the value of share. However, in the year 2016, the company experienced a decline in the value of a share from 450 pounds to 434.75 pounds. The volume of stock dropped within the 3 years period from 18.6 million pounds to 15.2 million pounds (Francis & Ramey 2009). Inflation This is the general increase of prices regarding products and services and a fall in purchasing-value of money. Inflation averaged 1.43 percent in 2014 down to 0.16 percent in 2015. A sharp decline was experienced the following year which recorded an average of 0.36 percent down from the historical rate of 1.43 percent (Rochon & Rossi 2006). GDP (Gross Domestic Product) Gross Domestic product is an indicator that gauges country’s economy. It is a representation of dollar value of goods and services that have been produced in a specific period. Focusing on the growth rate in the year 2016, GDP slowed to 1.8 percent down from 2.2 percent in the year 2015. High growth rate recorded in year 2014 was 3.1 percent. Consumer price index This is a measure which examines average prices of consumer goods as well as services Example of such goods and services are food, medical-care as well as transport. In the year 2014, United Kingdom experienced a hike in consumer price index which grew by 1.9 percent in June 2014, an upward trend from 1.5 percent in May 2014. CPI averaged 0.08 percent in 2015 and hiked to an average of 0.6 percent the following year (Francis & Ramey 2009). PESTLE Analysis Pestle Analysis evaluates external micro-environment that BT operates in. This reviews the political, economic social and technological environment. The analysis assists in establishing the company’s market situation as well as determining its future direction. Political – the company function in a diverse political environment, both local as well as international. European Union legislation contains a set framework regarding fibre access, green ICT and net neutrality which widens the company’s scope. According to the latest policy, Digital Agenda confirms the continent’s commitment in promoting high speed networks. The government of the United Kingdom maintains strategic political relationships with other countries as a way of stabilizing her economy. Brexit is perceived as an opportunity for the company since it will reduce her pension liability (Cadle, Paul, Turner 2010). Economic – synergy from possession of EE will yield cost efficiency as well as low churn rates. With an influx in scope of service within the telecom industry, extensive mergers and acquisition will be experienced by large companies like BT Group. Social – there is free bundling products, with an example of BT Sport specifically for broadband consumers which yield superior products differentiation. The growth of smart phones and other smart devices is yileding connected mind-set that will drive growth (Cadle, Paul, Turner 2010). Technological – there is a continued investment particularly in high-speed networks as well as alliances regarding 5G developments that mandate technological advantage. Moreover, BT Global service has been capitalizing on ‘cloud-of-clouds’ which will assist the company realize economies of scale (Zhan, Monekosso, Remagnino, Velastin & Xu 2008). Legal – the law-suits against accounting scandal (BT Italian Division) may affect overall finances. Furthermore, the ruling by Ofcom which is a UK telecom regulator results to separation of BT from Open-reach. Environmental – the company is fully focused in reducing carbon emission from the global environment (Cadle, Paul, Turner 2010). Factors that will Influence the Stock Price 1. Inflation Inflation is characterised with adverse impact on stock market. In this respect, the prices of goods or services will surge upwards without predefined rate. Inflation will be caused by a number of factors including rise in manufacturing cost, transport and products. In instances where market low rates of inflation are experienced, stock market responds with an influx in sales. High inflation makes investors think that the company will hold-back on spending. This eventually results to across the board decline in revenue. The inflated costs of goods together with a drop in revenue will results to a decline in the stock market (Morellec & Zhdanov 2008). 2. Interest Rates Interest rates established by the government and the banking institutions impacts the level of the stock market. Higher rates of interest results to an aggressive market that make finance more expensive to borrow. This is detrimental for the company and therefore the company will look for ways of responding to the adverse effect. This is normally done through cost cutting measures which includes workers lay-off. Furthermore, higher rates of interest signify that the company will not be in a position to borrow as it used to do before. Lower leverage results to drop in earnings. This will eventually cause a decline in the stock-market (Morellec & Zhdanov 2008). 3. Foreign Markets Economic trends in the international market impact stock market in the United Kingdom. Decline in economies within the foreign market means that British companies lack selling capability as compared to the initial times. This causes a sharp decline in revenue, which eventually result to a drop within the stock market. In addition, foreign stock exchanges have an impact on the London stock exchange. If foreign exchanges begin to experience and drop in the market, then the scenario make British investors anticipate ripple effect whose resultant effect is a decline in the London stock exchange (Morellec & Zhdanov 2008). Part C Valuing Take-over Bids Valuing an acquisition is never different from valuation of any other firm. However, existence of control coupled with introduction of synergy premiums yields complexity in the valuation process. In this respect, the best step to perform valuation is to start with status-quo valuation, followed by value of control and eventually value for synergy (Brady, Davies & Gann 2005). 1. Status-quo Valuation In order to successfully determine status-quo valuation, characteristics of the target company are ascertained. This includes; Determining the earnings prior interest and taxes. This enables calculation of pre-tax operating margin and after-tax return on capital Determining the beta of the firm, debt ratio, cost of capital and cost of borrowing prior to taxation. Finding the growth rate on operating income, revenues as well as net capital expenditures. The terminal value is ascertained using free cash-flow of the company and fresh cost of capital subsequent to a number of years (Brady, Davies & Gann 2005). 2. Value of Control The value of wrestling control from the incumbent management is conversely proportional to perceived quality of management as well as its capacity to maximize the value of the firm. Value of control is deemed greater in respect to poorly managed company which operates below optimal capacity compared to a well-managed company. Value of controlling a company emanates from changes effected to the previous management policy which could hike value of the firm. Assets of the company can either be acquired and or liquidated. The finance mix can be altered while dividend policy can be re-evaluated. The firm can also be restructured with a motive of maximizing value (Brady, Davies & Gann 2005). 3. Valuing Operating Strategy A potential exists regarding operating strategy for takeover bids. In most cases, disagreements exist over whether synergy should be valued, and the magnitude of valuation. Researchers purports that synergy is very nebulous to warrant valuation and any attempt to do so is coupled with pointless assumptions. Therefore, according to researchers if it is true, a company could not be willing to part with large premiums in exchange for synergy if absence of value. However, valuation is normally done by discounting the future cash flows (Lambrecht & Myers 2007). Financing Options Takeover bids require funding from the company (BT Group in this case). Apart from the traditional debt financing, the company is bound to explore different financing options as flows; 1. Asset-based lending (ABL) Asset-based financing give the company raise funds from the existing assets, particularly her debtors. If a situation arises where the firm has tied-up capital in equipment, machinery and debtors; then the assets can be utilised to support an ABL facility. This is an available option applicable where traditional debts are not available (Morellec & Zhdanov 2008). Advantages and disadvantages Asset-based financing is a quick and cost-effective way of raising working capital whilst at the same time maintaining growth for the business. In addition, the option is flexible and mandates the company to bridge cash-flow gaps resulting from accounts-receivable timings. The main disadvantage behind asset-based financing is that it is a form of debt. This means that in case of default, the financing is removed whilst shareholders’ value is lost. Moreover, if the valuation of asset is low, or the value of the asset diminishes over-time, the lender looks for a chance to decrease its exposure (Morellec & Zhdanov 2008). 2. Bank debt This is the surest way of raising funds. In that respect, different ways of obtaining a debt exist. This includes running temporary overdraft, smooth over peaks in the company’s cash flow to taking short and or long-term loan. A loan may turn out to be unsecure or it may be secured through collateral, with an example of property and equipment. Debt financing attract interest as additional cost. Moreover, the company undertaking take-over bid is supposed to refund the principle amount at predetermined periods (Morellec & Zhdanov 2008). Advantages and disadvantages The major advantage regarding debt financing is that it is always available as long as the company has the required security as well as solid business plan. In addition, debt financing contain taxation advantage where repayments are perceived to be business expenses. On the other hand, debt financing is normally coupled with high interest rates. Moreover, the lender takes control the company’s asset at the detriment of the company. Moreover, in case the firm’s operations run into trouble, the bank possesses a right of claiming repayment prior to any shareholders payments (Morellec & Zhdanov 2008). References Goteborg, S. 2015. The impact of press releases on stock prices, Department of Applied Mechanics CHALMERS UNIVERSITY OF TECHNOLOG, accessed 20th April 2017, http://publications.lib.chalmers.se/records/fulltext/223678/223678.pdf Chen, Q., Goldstein, I. and Jiang, W., 2007. Price informativeness and investment sensitivity to stock price. Review of Financial Studies, 20(3), pp.619-650. Zhan, B., Monekosso, D.N., Remagnino, P., Velastin, S.A. and Xu, L.Q., 2008. Crowd analysis: a survey. Machine Vision and Applications, 19(5-6), pp.345-357. Norden, L. and Weber, M., 2009. The co‐movement of credit default swap, bond and stock markets: An empirical analysis. European financial management, 15(3), pp.529-562. Cadle, J., Paul, D. and Turner, P., 2010. Business analysis techniques: 72 essential tools for success. BCS, The Chartered Institute. Brady, T., Davies, A. and Gann, D.M., 2005. Creating value by delivering integrated solutions. International Journal of Project Management, 23(5), pp.360-365. Lambrecht, B.M. and Myers, S.C., 2007. A theory of takeovers and disinvestment. The Journal of finance, 62(2), pp.809-845. Morellec, E. and Zhdanov, A., 2008. Financing and takeovers. Journal of Financial Economics, 87(3), pp.556-581. Rochon, L.P. and Rossi, S., 2006. Inflation targeting, economic performance, and income distribution: a monetary macroeconomics analysis. Journal of Post Keynesian Economics, 28(4), pp.615-638. Francis, N. and Ramey, V., 2009. The source of UK historical economic fluctuations: An analysis using long-run restrictions. The BE Journal of Macroeconomics (Topics), 9(1), p.30. Appendix : BT Group Financials   SHARE PRICE                     Date Open High Low Close Volume             18-Apr-14 362 369.7 362 369.5 18,615,925             17-Apr-15 454.6 456.6 448.05 450 15,481,885             21-Apr-16 439.2 439.2 432.6 434.75 15,212,194 INFLATION   GROSS DOMESTIC PRODUCT    CONSUMER PRICE INDEX                   Period Rate of Inflation   Period Annual growth       Q1 2014 1.70%   Q1 2015  0.30%   Period Annual Rate Q2 2014 1.70%   Q2 2015 0.50%   Q1 2015  0.10% Q3 2014 1.40%   Q3 2015  0.30%    Q2 2015 0.00% Q4 2014 0.90%   Q4 2015  0.70%    Q3 2015  0.00%             Q4 2015  0.20% Q1 2015  0.10%   Q1 2016  0.20%        Q2 2015 0.00%   Q2 2016  0.60%    Q1 2016  0.36% Q3 2015  0.00%    Q3 2016  0.60%    Q2 2016  0.36% Q4 2015  0.06%   Q4 2016   0.70%    Q3 2016  0.70%             Q4 2016  1.20% Q1 2016  0.36%             Q2 2016  0.36%             Q3 2016  0.50%              Q4 2016   1.10%              Read More