In this course you will learn how companies decide on how much debt to take, and whether to raise capital from markets or from banks. You will also learn how to measure and manage credit risk and how to deal with financial distress. You will discuss the mechanics of dividends and share repurchases, and how to choose the best way to return cash to investors. You will also learn how to use derivatives and liquidity management to offset specific sources of financial risk, including currency risks. Finally, You will learn how companies finance merger and acquisition decisions, including leveraged buyouts, and how to incorporate large changes in leverage in standard valuation models. Upon successful completion of this course, you will be able to: • Understand how companies make financing, payout and risk management decisions that create value • Measure the effects of leverage on profitability, risk, and valuation • Manage credit risk and financial distress using appropriate financial tools • Understand the links between payout policies and company performance • Use derivatives and liquidity management to offset financial risks • Pick an appropriate financing package for an M&A or leveraged buyout deal This course is part of the iMBA offered by the University of Illinois, a flexible, fully-accredited online MBA at an incredibly competitive price. For more information, please see the Resource page in this course and onlinemba.illinois.edu.
Assignment 2 Discussion
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来自 University of Illinois at Urbana-Champaign 的课程
Corporate Finance II: Financing Investments and Managing Risk
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从本节课中
Module 4: Financial Management of Acquisitions and R&D
In Module 4, we will apply the financial management tools that we developed in this course to M&A decisions and R&D programs. We will learn how to finance an M&A deal, and how companies choose between cash and stock payments to acquire target companies. We will also discuss the financing of LBOs (leveraged buyouts), and learn how to model a leveraged buyout using Excel. We will then discuss the financial management of R&D programs, with an emphasis on risk management. Specifically, we will learn how to think about the financing of R&D in a dynamic framework that considers the need to make uncertain follow up investments.
与讲师见面
Heitor AlmeidaProfessor of Finance, Stanley C. and Joan J. Golder Chair in Corporate Finance
Department of Finance, College of Business
[MUSIC]
Question one asked you to evaluate different motivations for hedging.
So the first one is 1-A, in this case, it is a value motivation for hedging.
Reduce volatility and input prices, but
in this case though because the input does not favor an exchange like steel, right?
The best option will probably be a purchase obligation as we discussed in
module three, right?
That the purchase obligation is one where you can hedge, input price risk,
even when your input does not trade on the future exchanges,
essentially by contracting the input price variances.
Question 1-B, also contains a valid motivation for hedging,
hedging interest rate risk as we discussed in the module.
It's a valid, it's something companies should worry about, right?
Using future though is likely to lead to imperfect hedging, right?
You're not going to find the exactly right future, so
you're always going to be left to some residual interest rate risk.
So a safer option to consider is going to be to issue the debt today and
hold cash, right?
So now, as we discussed in the module,
you're going to have a trade-off between the costs of issuing debt and
holding cash and the benefit of being in a safer financial position.
Question 1-C, again describes a valid motivation for hedging.
This company in particular is exposed to an appreciation of the Mexican peso.
because if the Mexican peso appreciates, then your costs are going to go up,
relative to dollars and euros, which is where your revenue is.
So the key options in this case, right?
Since your profits go down, if the Mexican peso goes up,
you have to take a position in futures or in other assets that
gives you a profit, if the Mexican peso depreciates.
So what you would do is you would buy Mexican pesos or another option as we
discussed in the module is to hold cash in Mexican pesos, right?
Question 1-D though describe something that is not a valid motivation for
hedging.
Reducing volatility of earnings should not increase shareholder value, okay?
We went through this in the module, and I hope you remember it when you were
reading the statement that it sounds right, but it's not, right?
Shareholders can do this on their own, he's really not a reason for
hedging, right?
Question 1-E again, describes something that is a valid reason for
hedging again exposure to currency risk, right?
In this case though, the companies expose it to a depreciation of the pound.
Because your revenues are going to decrease if the pound depreciates, right?
So it's the opposite of the previous question, and
of course the derivatives position is also opposite.
So in this case, what you need to do is you need to go short on the pounds.
You need to do something in your financial position that gives you a profit
if the pound depreciates.
So you would sell pound futures or you would borrow in pounds and
hold dollars, if you are concerned about using the futures market.
Question 1-F is again not a valid motivation for hedging.
It sounds appealing, but it's wrong.
Trading profits is not a good motivation for hedging.
This is exactly what we think of as speculation.
If you want to speculate, you should not do it with corporate resources,
you should move to Wall Street, that's how I like to describe this.
The CFO should move to Wall Street.
The question 2 is a little more elaborate example of about currency risk.
The situation where a company is making this investment in Brazil, but
the investment needs to be approved by the government.
So the immediate risk that you face is that
you have the exposure to this payment in Reais, right?
So this is an exposure that means that what will happen is your payment
might increase if the Real appreciates in value.
As we saw in module three,
the Real can actually change very sharply in a short period of time.
So payment could easily go up 20, 30% in a short period of time, okay?
So the options of course,
one option in this case is to hold cash in advance, as I have here, right?
You can hold Reais in advance, so if the Real appreciates, you don't care anymore.
Or you can try to profit from the appreciation of the Real by buying
Real futures, and here's something interesting.
This is one of the most interesting questions of this assignment, right?
So now we are in a situation where the Real depreciated, okay?
So your future position didn't make money, and the investment wasn't approved.
So all you had is the loss on your derivatives position, or
your loss on your long position in Reais if you're holding Reais on the other way.
So the key thing is I think that the company did not necessarily
make a mistake, you weren't sure if the government were going to approve or
not but think about it.
You would have been in a much worse situation if for
some reason the company had not been able to make the required investment because it
had been too expensive, rtight?
If the investment became too expensive for the company, because the Real appreciated.
Then you cannot make the investment made because you can't raise financing, right?
There would be really costly or
losing this valuable investment opportunity because of currency risk.
On the other hand, the only thing you lost in the current situation
where the government canceled it.
The only thing you lost is your trading profit and that shouldn't be a big deal.
The CFO should be able to explain to investors that there was a good reason why
the company was hedging the Reais.
And now the question is what happens, suppose the investment is approved, right?
What changes?
So now of course the exposure changes, right?
Now the company is exposed both on the revenue and the cost side.
Because you are producing in Brazil,
you're selling in Latin America including Brazil but also in other countries, right?
So what you need to think about using the framework we developed in module three is,
how are the Latin American currencies going to move together.
And the key idea here is the idea of natural hedge.
So suppose that you're selling in Argentina and producing in Brazil.
If the Argentinian peso and the Brazilian real move head to head,
then your costs and revenues are going to change together and
maybe you don't have to worry about currency risk, right?
So it would be interesting if you could come up with that on your own.
However, it may be the case that these relative movements still matter.
It may be the correlation between the Argentinian peso and
the Brazilian real is not that high.
So you may still want to hedge against these relative movements.
Question 3 is also about the currency risk, thinking about
two different companies that are exposed to a similar risk in different ways.
So you have a US exporter, right?
And the US exports to Switzerland.
And the way I framed this question is that the Swiss franc tends to appreciate
in good times and it tends to appreciate in bad times.
That is actually true in the data,
the Swiss franc is considered to be a safe haven.
So Switzerland is a place where everybody tries to put there
money when the world goes into a financial crisis.
So think about now the US exporter, right?
So you are failing in Switzerland.
In a boom, the Swiss franc depreciates so your profits go down, right?
Because you're selling in Swiss francs.
In a recession though, right?
When the situation is bad, your profits in Switzerland are going to go up.
So think about that in terms of data, right?
Higher profits in booms, lower profits in recession.
That means the US exporter is going to have a lower beta,
I hope you figured that out.
And the Swiss exporter of course is going to be the opposite.
It has to be the opposite, right?
So the beta for a Swiss exporter is going to increase because now
you have less profits in bad times.
So that's exactly when you don't want to have lower profits.
Both companies maybe still concern with currency risk.
Even the US company may want to eliminate currency risk for
reasons that we discuss that in class, right?
So for example, you might not want
the executive compensation should depend on the appreciation of the Swiss franc.
But for sure, I think the Swiss exporter would be more concerned because the Swiss
exporter is becoming riskier.
The currency risk is probably going to effect the cost of
capital of the Swiss exporters.
So you have an additional incentive to go to hedge currency rates.
Again, currency exposure, question 4 is about a US exporter, right?
And in this case the exporter is, because you're selling in Korea, right?
You're exposing to the depreciation of the Korean won, right?
So in that case, your avenues are going to go down, so the hedging strategy is to for
example, borrow in Korean won and hold dollars to mitigate currency risk.
That's what you would do if you use liquidity, you can try to find futures as
well, but the question tells you to discuss what is the liquidity strategy?
I did this on purpose because if you're thinking only about futures,
it's important to consider that you can always try to replicate
a future strategy by using a foreign debt and cash.
So now question 5 is going to think about different types of acquisitions and
how they're likely to be financed.
That's the topic we talked about in module four.
So in part A, we have a situation where we have a highly levered acquirer and
a large target, right?
And these of course is going to make it difficult to
finance the acquisition with additional debt, right?
So if you are already highly levered your debt capacity is lower.
So what the acquirer is going to do in this case is probably to issue equity.
And try to pay with stock instead of issuing with debt, financing it with debt.
Question 5-B is interesting because it talks about a situation where
the target is less optimistic about the deal.
So think about what this means in the framework we developed in module four.
If the target has stock in the merged company then
the target is not going to place a very high value in that.
Because you really don't believe in this deal, so
you think that the bad outcome is more likely than the good outcome.
So what this means is the acquirer is probably going to have to
give the target more equity to compensate for this right?
It might be better for the acquirer to just pay cash in this case,
if the acquirer can pay cash you can eliminate this disagreement by saying,
I'll take the cash then.
I know you don't believe in the deal.
Take the cash, go home.
Let me run the company.
Question 5-C is about a large acquirer and a small target,
we actually discussed these directly in the lecture, right?
In this case, leverage is not an issue.
The tax bill for the acquirer is smaller, it's relevant for the target.
But for the acquirer it's going to be a small amount, so
you can easily pay a higher premium.
And what that means is the acquirer is more likely to pay cash,
which is actually what we see in the data.
Small acquisitions are buying large financed with cash.
And equity financing is much more used in large acquisitions.
Question 6 talks about how a manager can
keep a private equity firm away, right?
So this is a situation where the companies are good candidate for an LBO.
You have stable cash flow, profits, you have low debt,
moderate growth prospects, so maybe your stock prices not too high, right?
So that's the very good candidate for a leverage buy out.
So what can the target management do?
Of course,you could try to restructure the business and increase the value of
the business and make it harder for the private equity fund to pay a premium.
You can always try to do that, it might be hard though.
An easier thing to do maybe to increase leverage, right?
This business seems to be underleveraged, right?
And as we discussed in module four, the fact that LBO targets are underleveraged
helps the private equity fund conduct this deal, right?
The deal might create value for shareholders in the end.
But maybe the management wants to fend off the private equity fund for
other reasons like to protect employees, for example.
In that case,it may actually be optimal to increase your leverage ratio and
then have a more efficient financial structure.
Question 7 is going to get into the data again, right?
So we have this Mondalez case which is actually a current case.
Maybe by the time you see this video,
Mondalez will already have been acquired by someone.
Mondelez is a large food company,
it has a market cap of 63 billion and net debt that is about $15 billion.
So as we discussed in the course, standard of takeover premium can be up to 30%.
So that would mean, if you study percent,
it would mean that the acquirer would have to pay $82 billion.
In addition to that, you have to assume the debt, right?
We discussed this notion in module four.
You have to carry the debt, right?
So that you're really looking at $100 billion deal.
Current leverage is 20%.
The current credit rating is BBB, right?
So if you're wondering that's how I computed it $50 billion of debt, right?
Credit rating is BBB, and so there is a little bit of space for
an additional debt issuance, right?
So if we assume that Mondelez is similar to a medium company,
may be able to increase leverage or bid but not much, right?
In a deal like that the bulk of the finances probably have to come from
equity, okay?
So that would be the answer that you're probably not
going to have a lot of debt capacity needs, right?
So let's think about the two possibilities, right?
How would a private equity deal look like?
It's really hard to imagine that a private equity fund would be able to invest more
than let's say $20 billion.
The Heinz-Kraft deal was one of the largest ones where
the Berkshire Hathaway and
3G Capital injected $17 billion of cash on the deal as we discussed in module four.
So even if you put $20 billion that would still require you to issue
$62 billion in new debt.
Maybe that's feasible, right?
But what would happen to leverage?
Asset value should increase, right?
So leverage of course total debt is going to go up to 77 billion.
Let's say that your asset value increases because of the premium of 30%, right?
As we did in the examples in class,
your equity value's probably also going to go up, right?
So incorporating the increasing premium here,
you would see still that the leverage is actually getting close to 100%, right?
It really wouldn't work.
Okay, this leverage is too high.
The credit rating on Mondelez would really tank.
They would become a company that is really close to financial distress.
And I doubt that the private equity fund would be able to finance this deal.
So the standard private equity doesn't seem feasible.
It's going to be important in this deal to use some equity, right?
So for example, Heinz-Kraft is partially owned by private equity.
But it can also use stock because it already owns Heinz-Kraft.
So it can actually issue equity in Heinz-Kraft to help pay for Mondale, so
maybe they can bring all the companies together.
Let's see if that happens going forward,
there are of course some constant about regulation and whatnot.
But there is like I said, some rumor that a deal like that might go on.
What we just learned is that it's probably going to be Heinz-Kraft is
less likely to a private equity firm.
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