Dupont and Seagram: There Ought to Be a Law

E. I. Du Pont de Nemours and Company (DuPont) was founded in 1802 and incorporated in 1915, making it one of the oldest existing companies in the United States. It is also one of the world's largest companies and the largest chemical company. In addition, through its Conoco subsidiary, DuPont is among the top ten U.S. based petroleum and natural gas producers and refiners. Through its 50% ownership in DuPont Merck it is a major player in the pharmaceutical market. The company employs 97,000 people, operates in 70 countries and derives about 70% of its revenue from sales outside the U.S. DuPont is perhaps best known as the company that gave the world Nylon, Mylar, and Teflon. Through the decades DuPont continued to grow and diversify into a number of related and unrelated businesses, with increased size came a commensurate growth in corporate bureaucracy in Wilmington, Delaware and Geneva (DuPont's European headquarter). By the end of the 1980's the company had become top heavy, sluggish and was faced with declining sales and tumbling profits. To turn the company around, DuPont in 1989 appointed Edgar S. Woolard Jr. as CEO. Under Woolard, DuPont shed layers of middle-management positions to streamline its sluggish decision making process and sold off $2.8 million worth of ill-fitting businesses. By 1995, DuPont had reduced overhead costs from $3.7 billion to $2.9 billion, $1 billion was shaved from supplier costs. Operating margins had risen from 5.4% to 8% and cash-flow from operations topped $5.9 billion. Sales and net income also continued to soar. (For summarized data for 1994, 1995 and 1996 see below) All in all, Edgar Woolard had reason to be pleased with the company's performance under his leadership. However, one of his goals had not yet been accomplished: Through most of 1994 Woolard had been pondering ways to get some of DuPont's growing pile of cash to stockholders, Wall Street shared his concern and anticipated a stock buy back. The question was how to engineer such a buy back to provide the greatest benefit to DuPont and its stockholders? Various alternatives were examined and rejected. But then, in the fall of 1994, came a phone call from Edgar Bronfman Jr., the chairman of Seagram Co. A phone call that would provide the frosting on Woolard's and DuPont's cake, generate emotional media attention and give rise to cries of "there ought to be a law!" Joseph Seagram Company LTD In 1919 family patriarch Samuel Bronfman ("Mr. Sam") founded what eventually would become a family-controlled, multi-national conglomerate. In 1928 he acquired the Joseph Seagram Company, (Seagram) which was incorporated in Canada in that year. Seagram was a small Canadian distiller and distributor of distilled spirits and it derived enormous benefits from prohibition (1919 to 1933) when it became a major supplier of liquor to the United States. It has 8,000 stockholders, but continues to be controlled by the Bronfman family. It's primary business until fairly recently has been the production and marketing of distilled spirits and wines More recently, the company expanded into other types of beverages, such as fruit juices (Tropicana, Dole juices), coolers, beer and mixers. The company had also developed a major real estate empire and expanded into the oil business in the United States. Until 1994 Edgar M. Bronfman was Chairman and Chief Executive Officer (CEO). In June 1994 his son, Edgar Bronfman Jr., was appointed CEO. Edgar Bronfman Jr. had long been fascinated by Hollywood and wanted to become a major player in Tinseltown. To accomplish this goal he wanted Seagram to expand into the entertainment industry. In 1994, Seagram acquired a 14.5% stake in Time Warner and rumors circulated that Bronfman planned a take over. However, as it developed, Time Warner objected to Seagram's advances and threatened to invoke a "poison pill" defense against any take-over attempt. Bronfman changed directions and decided to focus on MCA. Acquisition of 80% of MCA would give Bronfman a studio (Universal), a record company (Geffen Records), the Universal Studios theme park and merchandising operations. The only thing lacking was a television network. One problem remained to be solved: How to finance the $5.7 billion purchase price. That's when Bronfman thought of DuPont. Seagram, Conoco and DuPont In 1981 Seagram attempted to take over Conoco, on of the major oil and gas producing companies in the U.S. Seagram acquired 27.7 million of the outstanding 86 million shares of Conoco, giving it a 32.2% interest. However, DuPont also had designs on Conoco, resulting in a bidding war between Seagram and DuPont. When it became obvious that DuPont would emerge the winner in the contest for Conoco, Seagram tendered its 32.2% of Conoco in exchange for 24.3% of DuPont stock. By 1995 Seagram was DuPont's largest single shareholder with 4 seats on DuPont's board of directors. The investment accounted for 70% of Seagram's earnings, and in 1994 it provided Seagram with $299 million in dividends. But Bronfman was much more interested in filmmaking than in the stodgy chemical business and thus the fateful phone call in which he offered to sell back most of Seagram's DuPont stock. Edgar Woolard was delighted. Here was an opportunity for a major reduction in the number of DuPont shares outstanding, resulting in significant benefits to remaining DuPont stockholders and to the company. The normal method would have been a simple repurchase and retirement of the shares in question at the then approximate market price of $62 per share. While the size of the transaction (156 million shares) would have merited mention in the financial press, most likely it would have been covered in a one-paragraph statement and would not have drawn the outraged attention of Congress. But the deal announced by DuPont on April 6, 1995 was far from simple and straightforward. The Deal DuPont paid Seagram $1 billion in cash and $7.3 billion in 90-day notes and issued 156 million warrants to Seagram in exchange for 156 million shares of DuPont. The total transaction was valued at $8.739 billion. The warrants were redeemable according to the following schedule: 48 million at a price of $89/share during a 60 day period ending October 30, 1997 54 million at a price of $101/share during a 60 day period ending October 30, 1998 and 54 million at a price of $114/share during a 60 day period ending October 30, 1999 To partially pay for the stock repurchase DuPont sold 22.727 million shares for $1.747 billion (including 7.8 million shares that were "sold" to its pension fund for $500 million). An additional 24 million shares were "sold" to the company's "Flexitrust" for $1.626 billion. DuPont was pleased, since instead of paying $62 per share, it acquired the stock for only $56.25 per share, a savings of about $900 million, in addition to a $744 million tax free "gain" on the sale of stock. Far from being unhappy over the below market price, For tax purposes Seagram carried the DuPont stock at a cost of $18 per share, was also pleased. It was able to turn what normally would have been a fully taxable capital gain (tax: $2.1 billion) into a lightly taxed dividend (tax: $615 million). The stock market was also pleased with DuPont, the price per share increased from about $62 to $66. Who was not pleased? Well, for one, Allan Sloan, Newsweek's Wall Street editor, who characterized the transaction as an "outrage", a "pretty slick" way for DuPont to realize an approximately $500 million tax free "gain" (Sloan, 1995). Congress was not too thrilled either and vowed to close the particular tax loophole through which DuPont and Seagram had managed to crawl. If one agrees with Sloan and certain members of the House Ways and Means Committee, U.S taxpayers should not be too happy either, since according to Sloan the loss to the treasury amounts to about $2 billion. Finally, Seagram investors were unhappy, signalling their displeasure through a 16% drop in the price of Seagram stock. Postscript: 1996: DuPont and Seagram resolved the issue of the warrants 1997: Seagram acquired the 50% of the USA network it did not already own from Viacom for $1.7 billion. Seagram has since sold most of its stake in the USA network to Barry Diller. DuPont 1994 1995 1996 In billion dollars, except for EPS Revenue $39 $42 $44 Net Income 2.7 3.2 3.6 4 5.61 6.47 EPS