Corporate Issuers - Question Sheet

Corporate Issuers – Question Sheet Case No. 1 Mila Cote, an environmental, social, and governance (ESG) consultant, is hired by Conductor Mining to review its policies and recommend improvements. Conductor is a metals mining company that was founded by a member of the Bouchard family, who together are the largest shareholder and also hold executive management positions. Cote meets with Oliver Bouchard, CEO of Conductor, and suggests starting with governance policies. Bouchard provides Cote the following information about Conductor and its peers: Bouchard adds the following information: Conductor's audit, compensation, and nomination committees are made up of independent directors. The risk and investment committees are headed by family directors. Conductor has cross-ownership agreements with one of its suppliers and one of its distributors. Conductor has purchased stock in those other companies, and the management teams of those companies have similarly purchased positions in Conductor, with an agreement to hold the stock for the foreseeable future. Corporate Issuers – Question Sheet Bouchard states that he has been receiving more ESGrelated questions from investors. He asks Cote how investors typically use disclosed ESG-related information and what Conductor can do to attract more ESG-focused investors. Cote states: Statement 1: Most countries have mandated ESG-related disclosures, which allows analysts to view a consistent set of metrics across companies. Statement 2: Equity and credit analysts often integrate ESG factors in similar ways, such as through adjusting forecasted financial metrics and ratios. Statement 3: Green bonds, which can help fund green projects, will have lower credit ratings since they can be repaid only by funds from environmentally friendly projects. After reviewing Conductor's operations and the industry in more detail, Cote notes that the country where Conductor operates is discussing new environmental regulations. One set of regulations that is likely to become law would require mining companies to use environmentally friendly mining techniques in 50% of their operations within 5 years. Cote notes that only 25% of Conductor's operations meet the standard currently and that upgrades to existing equipment are available but costly. Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 2 Amelia Nowicki, chief financial officer of Skyline Wireless, discusses ways to attract new equity investors with the company's chief executive officer, Elias Keller. Skyline operates in a country with a dividend imputation tax system. Nowicki believes the initiation of a dividend next year (20X8) will be most effective in attracting new investors. On average, she found that competitors' share prices outperform the market the year after initiating a dividend. Keller agrees that many investors view dividend initiations positively, though he also expects that some may view it negatively. Nowicki provides three factors that she expects will affect Skyline's dividend policy in the coming years if a dividend is initiated: Factor 1: Skyline has fewer profitable investment opportunities than it did in prior years. Factor 2: Skyline's sales are dependent on large contracts with a small number of customers. Factor 3: As a relatively small company, Skyline would have high flotation costs. Nowicki indicates a good target for a dividend coverage ratio is 1.5, but she is concerned about the company's other competing uses of cash and wants a measure that factors this into the coverage ratio. Nowicki compiles the following financial forecast for 20X8: Corporate Issuers – Question Sheet Nowicki indicates that she intends to use cash on hand to pay the dividend. Keller is concerned about maintaining compliance with bond covenants on Skyline's debt. He asks Nowicki what impact a dividend would have on the company's leverage ratios. As an alternative to initiating a dividend, Keller suggests that Skyline split its stock two-for-one. He believes Skyline's stock price is too high, which limits the stock's potential investor base. He also expects the company to have a more favorable P/E ratio after the split since the company will have more shares outstanding, lowering its EPS. Skyline has the following market and financial data: Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 3 Nigel Thompson is an equity analyst covering the global auto parts industry at a US-based buy-side firm. Thompson is in the initial stages of analyzing two public companies: US-based Acme Auto and a direct competitor, Universal Automóvel, which is based in the emerging market country of Brazil. Thompson begins the analysis by compiling 20 years of monthly data to estimate Acme's cost of equity, shown in Exhibit 1: Thompson decides to estimate Acme's cost of equity using the bond yield plus risk premium (BYPRP) approach. He also wants to compare those results with the Fama-French five-factor model (FF5), using the past 60 months of data, presented in Exhibit 2: Thompson turns his attention to Universal; he believes the CAPM equity risk premium presented in Exhibit 1 is a good starting point for his analysis, but also recognizes the need to incorporate a country risk premium (CRP) into the analysis. He considers the following options: Corporate Issuers – Question Sheet Method 1: Country spread model Method 2: Global CAPM Method 3: International CAPM Thompson selects the Damodaran cost of equity model for his analysis of Universal. Relevant information is presented in Exhibit 3: Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 4 Ganesh Kaur, CFA, is an investor researching two companies as potential new investments. National Gas & Electric (NG&E) is a large, publicly traded utility that has been a consistent dividend payer for several years. Revive Inc. is a food and beverage company that has sustained above-average revenue growth and has been paying a dividend for several years using different payout policies. NG&E Kaur expects NG&E to increase its target dividend payout ratio this year and collects the following data: Kaur expects NG&E to use a stable dividend policy and to reach its target dividend payout ratio over a four-year period. The country in which NG&E operates uses a dividend imputation tax system. The corporate tax rate for NG&E is 20%; investors in the country have a 15% tax rate on dividends. Kaur wants to determine whether NG&E's higher dividend payout ratio is sustainable in the coming years. He considers the following: Factor 1: Cutting capital expenditures to fund dividends provides more cash for dividends and is a positive indicator of sustainability. Factor 2: Coverage ratios that measure dividend safety should consider dividend payments but not share repurchases. Factor 3: Above-average financial leverage can foretell more restricted use of new debt to cover future dividend payments. Corporate Issuers – Question Sheet Revive Inc. Kaur collects Revive's dividend history: Revive's management has also indicated plans to pay a onetime 5% stock dividend if earnings reach a certain threshold next year. The stock dividend would supplement any cash dividends it may initiate. Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 5 Armando Stanton is the CFO of Solstice Auto Parts, a traditional automotive valve manufacturer that started producing car sensors in recent years. New sensor technologies developed by Solstice improved the company's market share and the prospects of its sensors segment. As a result, Solstice increasingly shifted its focus to that segment and diversified its production to include home security and industrial sensors. Stanton asks Flora Mays, Solstice's preferred investment banker, about strategic alternatives to maximize Solstice's value. He summarizes information from Solstice's segments in Exhibit 1: Mays explains that Solstice has a conglomerate discount based on the information provided and recent market data: Solstice has 25 million shares outstanding at a market price of $250.00 per share. Solstice's debt has a market value of $2.5 billion. Peers in the valves segment have a median EV/EBITDA multiple of 9.0. Recent transactions in the valves segment resulted in an average takeover premium of 20.0%. Peers in the sensors segment have a median EV-to-sales (EV/S) multiple of 10.0. Mays tells Stanton that she was contacted by a strategic investor interested in purchasing 100% of Solstice's valves segment for $6.5 billion, not assuming any debt. She adds that the offer is greater than the price the bank estimates for the valves segment and advises Stanton to accept. Stanton tells Mays that other auto parts companies recently decided to spin off certain segments instead of selling them. Mays explains that spin-offs tend to provide less liquidity to the parent company, but they also have some advantages when compared with a sale. Corporate Issuers – Question Sheet Stanton tells Mays that he is not sure this is the best time to divest. He acknowledges that Solstice's management has neglected the valves segment in recent years and needs to improve the segment's margins; however, if the company could restructure the segment and improve its EBITDA margin, he believes it could be sold for a greater multiple in the future. He asks for Mays's advice, and she lists the following alternatives: Alternative 1: Outsource part of the valves segment activities to a low-cost supplier. Alternative 2: Form a joint venture with a foreign low-cost competitor. Alternative 3: Sell and lease back manufacturing plants and vehicles. Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 6 Erica Pearce is a portfolio manager for Tenor Financial. Pearce asks Young-Jae Cho, an analyst at Tenor, to review several of the company's positions for environmental, social, and governance (ESG) factors. Pearce's preference is to use frameworks backed by nonprofit organizations when identifying companies' ESG factors. Cho and Pearce first look at Galaxy Technologies. Galaxy's largest and most influential shareholder is the Gallagher family. Pearce collects governance-related information for Galaxy and one of its peers that has no influential shareholder: Pearce then analyzes the debt securities for Wellness Insurance held by Tenor. Tenor currently holds recently issued 3-year and 8-year bonds for Wellness. Pearce learns that a new regulation will force Wellness to hold a greater amount of cash as reserves, limiting the cash available to reinvest in its business and pay its capital providers. The regulation is expected to go into effect 4 years from now, but Wellness will begin building up its cash reserves 6 quarters before the regulation goes into effect (or 2.5 years from now). Pearce suggests that Cho adjust each bond's credit spread used for the valuation to update the bonds' estimated values based on the regulation's effects. Wellness just announced plans to issue a green bond, the proceeds of which will be used for environmentally friendly projects. Pearce is reviewing pricing expectations for the green bond against the other Wellness bonds that Tenor holds. Cho notes that overall demand for green bonds is strong and they are rarely issued from this sector. Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 7 Compass Engineering's board of directors is deciding between cash dividends or a share repurchase program as a method to begin returning cash to shareholders. Liam Fischer, a member of the board, states that both cash dividends and share repurchases have certain advantages that should be considered: Advantage 1: Share repurchases tend to be more flexible. Although dividends can be raised, lowered, or suspended, they appear to create an expectation among investors that the distribution will continue in the future. Share repurchases do not seem to create the same expectation. Advantage 2: If the tax rates for capital gains and dividends are the same, and the information content is the same, then shareholders' wealth will be greater with cash dividends since all shareholders receive cash. Alicia Wu, the chairman of the board, indicates that Compass should review the long-term trends in the country (the United Kingdom) before deciding. After deliberation, the board favors a share repurchase program. Jessica King, another member of the board, is concerned about the effect of share repurchases on Compass' EPS. She collects the following data for 20X2: Corporate Issuers – Question Sheet In addition, King wonders what effect share repurchases have on companies' book values. She gathers data from three of Compass' peers who have made a share repurchase: The board members then discuss the best approach for Compass to repurchase shares. King has identified two possible scenarios, both using the same amount to repurchase shares: Scenario 1: Purchase shares using all cash on hand. Scenario 2: of debt. Purchase shares with funds from an issuance Wu states that her preference is to choose a method by which the company can control the process and execute it quickly. She also prefers a process that would allow Compass to discover the minimum price at which it can repurchase the desired number of shares. Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 8 Edoardo Tedesco is a junior analyst covering the consumer staples sector at an Italian investment bank. Tedesco believes that the number of corporate transactions in the sector will increase significantly and calls his colleague Tatiana Galasso, a senior analyst. He asks her about the most common forms of corporate restructurings, and she makes the following statements: Statement 1: A joint venture is created by two or more companies, which remain independent from each other. Statement 2: A divestiture usually raises less liquidity than a spin-off. Statement 3: A balance sheet restructuring always reduces the size of the firm or the scope of the business. Galasso explains to Tedesco that companies have different motivations to engage in investments, divestments, and restructurings. She lists some common issuer-specific motivations and the actions associated with them. Tedesco turns his attention to Raganello Food, a company that is seeking to acquire SottoZero, a smaller player in the frozen food business. He summarizes both companies' expected revenues and operating expenses for the next three years in Exhibit 1: Corporate Issuers – Question Sheet Tedesco believes that the acquisition can bring long-term benefits for Raganello in the form of cost synergies but would also require cash costs in the first three years. To assess the outcome of a potential acquisition occurring at the beginning of Year 1, he estimates the following synergies and costs for Raganello, shown in Exhibit 2: Tedesco notices that Raganello's beverage manufacturing plant, located in Italy, has been hurting the company's results for the last few years. The plant is outdated, with low productivity and high operating expenses. Tedesco believes that investing in the existing plant is not economically viable and asks Galasso what actions the company could take. She replies that Raganello could implement a cost restructuring action by closing the existing plant and offshoring its beverage manufacturing business. Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 9 Iordanis Zervou is a portfolio manager at an asset management firm. Zervou is considering an increase in the firm's exposure to ElatiTech Computers, a large manufacturer of laptop and desktop computers. Recently, ElatiTech's CEO stated that the consistent growth of the economy had increased management's confidence. Soon afterward, ElatiTech announced its interest in acquiring Giona Tech, a small company that develops and sells innovative cloud computing software. Zervou calls Antonia Chalaris, his colleague and a senior analyst covering the technology industry. He asks Chalaris if she believes that the current strong-growth economic environment is favorable for acquisitions. Chalaris responds by comparing acquisitions made during expansionary periods with acquisitions made when the economy is weak. Chalaris conducts an initial evaluation of the deal, based on ElatiTech's announcement, and reaches the following conclusions: The transaction would cost approximately €600 million in cash, 100% financed with new debt, plus the assumption of Giona's debt, estimated at €250 million. ElatiTech's current enterprise value is approximately €29 billion. ElatiTech is expected to shift to a new strategy that emphasizes the cloud computing software industry, which has been growing significantly faster than ElatiTech's computer manufacturing business. Chalaris says that her team conducted a preliminary valuation of Giona using comparable company analysis. Zervou asks her to provide more details, and she lists advantages and disadvantages of using the comparable company method to estimate a fair acquisition price. Chalaris adds that her team has already identified three recent acquisitions involving other companies in which the targets were considered similar to Giona, and her team has made a comparative transaction analysis with the following assumptions: Corporate Issuers – Question Sheet The analysis is based on the average P/E and average priceto-book (P/B) multiples. The price estimate is based on 60% P/E and 40% P/B. Chalaris presents selected data from Giona and from the comparable acquisitions in Exhibit 1: Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 10 Nyasha Thabethe is an equity analyst at Mountain View Asset Management. Thabethe is researching Revolution Medical Devices Inc., a small-cap publicly traded company. Revolution's capital structure and the information needed to determine the company's WACC are presented in Exhibit 1: To estimate the cost of debt, Thabethe gathers information on similar actively traded BBB-rated bonds, shown in Exhibit 2: Thabethe uses the discount dividend model (DDM) approach to estimate the equity risk premium (ERP) and Revolution's cost of equity. She gathers relevant information, shown in Exhibit 3: Corporate Issuers – Question Sheet To check her assumptions, Thabethe also calculates the cost of equity using three other methods. The methods and results are presented in Exhibit 4: Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 11 Rodrigo Neves is a credit analyst for Horizonte Capital Partners. He is reviewing his analysis of three companies and plans to update each company's model to include environmental, social, and governance (ESG) factors. He begins by analyzing how consistently investors consider each of the individual ESG factors on a regional basis. To begin his research, Neves collects ESG information on each of the companies: While Neves is doing the research, Company A announces that a hedge fund took a 6% stake in the company and has presented a list of suggestions for management to improve shareholder value, including adding two of the fund's partners to the company's board. Company B currently has a single-share class structure but is planning to issue a new class of shares through an IPO. The company is considering several structures. Horizonte owns Company C's 3-year bond. Recently, a new regulation was enacted and, as a result, in five years one of Company C's chemical production plants will no longer be financially viable. Neves expects Company C to begin operation of a replacement production plant next year, which will increase forecasted capex by 30% each year. Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 12 During the summer of 20X2, Stanislaw Grajek, a junior analyst covering the automotive sector for an investment bank, is investigating potential acquisitions in the sector. He asks his supervisor at the bank, Klementyna Lisowska, how an acquisition may affect the acquirer's earnings and cost of capital. She replies that projecting these effects requires building pro forma financial statements of the combined operations of the acquirer and target and comparing them with the acquirer's metrics before the acquisition. She then observes that, all else equal: Observation 1:The acquirer's cost of capital may change due to factors such as profitability and volatility of revenues. Observation 2:A leveraged acquisition increases the acquirer's cost of equity and WACC. Observation 3:A leveraged acquisition of a profitable target increases the acquirer's EPS. Lisowska tells Grajek that Resistenza Motors has just announced its interest in acquiring a smaller competitor, Muronka Autoparts. She asks him to analyze the proposed acquisition and the potential changes to the acquirer's capital structure. Grajek presents current information about Resistenza Motors in Exhibit 1: Grajek then summarizes Resistenza's offer for Muronka in Exhibit 2: Corporate Issuers – Question Sheet Lisowska asks Grajek to construct the 20X3 pro forma financial statements for the combined entity assuming the acquisition occurs at the end of 20X2. In addition to the companies' forecasted standalone financial statements, presented in Exhibit 3, she asks him to use the following assumptions for 20X3: Cost synergies: €650 million Interest expense: €1,940 million on total debt, including assumed debt and new debt Amortization of acquired intangible assets not recognized in Muronka's balance sheet: €410 million Effective income tax rate: 25% Later, in a conference call, Resistenza Motors informs investors that the company is considering a change in the original offer, substituting the €4.5 billion of new debt with cash since the company currently holds a comfortable cash position of €8.0 billion. The company adds that the total consideration and equity financing would remain unchanged. Grajek asks Lisowska how that change would impact Resistenza's pro forma financial statements, particularly net debt-to-EBITDA and EPS, when compared with the original offer. Corporate Issuers – Question Sheet Case No. 1 Corporate Issuers – Question Sheet Case No. 1