5.5 Assignment: Mini Case Study

Getting Started

A “leveraged buyout” is when a company’s own assets are used as collateral to support a loan that is then used to purchase that same company. It has been described as the company buying itself. In the 1980s, leveraged buyouts became popular as a way to extract more value for shareholders. The approach was highly successful, with several billionaires created in the process. However, this high-risk approach also has serious ethical and financial consequences. It leaves a company saddled with an enormous pile of debt. Frequently the company is stripped of its brands or dismantled to repay the debt. While shareholders and executives may benefit, creditors, suppliers, or employees are often harmed. With this assignment, you will have the opportunity to evaluate a real-life leveraged buyout of your choice, and to carefully consider the ethical and financial implications of the decisions made by executives and their advisors.

Upon successful completion of this assignment, you will be able to:

• Understand innovative approaches to the use of debt in business.
• Evaluate the implications and appropriateness of the aggressive use of debt.

Resources

• Video: Basic Leveraged Buyout (LBO)
• Video: KKR Henry Kravis

Background Information

The leveraged buyout (LBO) has become a famous, perhaps infamous, approach to corporate finance. Whenever people talk about corporate raiders, they are probably referring to leveraged buyouts. The method has been featured in several movies, including Wall Street and The Boiler Room. The record-breaking 1989 acquisition of RJR Nabisco by famed private-equity firm KKR was even featured in a TV movie Barbarians at the Gate.

While it is easy to disparage such an aggressive and risky maneuver, there are many examples of where a leveraged buyout has resulted in not only great profits but also greatly improved businesses. When a company is purchased through an LBO, it is taken private, meaning its shares are no longer publicly traded. This frequently gives the company the space and discretion it needs to restructure itself.

For example, in 1986 supermarket chain Safeway was purchased by KKR, using only $129 million in cash but over $5 billion in debt. Safeway divested some of its assets and closed many of its unprofitable stores. However, by 1990 the company had greatly improved its profitability and revenue. The company went public again, resulting in $7.2 billion in profits for KKR. Safeway continues to operate successfully to this day, employing some 140,000 people. In 2015, the company was purchased by Albertson’s for $9.4 billion.

In this assignment, you will investigate an example of a real-life leveraged buyout that is of interest to you. You will then have the opportunity to analyze whether the decision to take the company private through an LBO was appropriate, not only in terms of its financial results for the company’s owners but also in consideration of the impact to the firm’s other stakeholders.

Instructions

1. Review the rubric to make sure you understand the criteria for earning your grade.
2. View the video Basic Leveraged Buyout.   https://www.khanacademy.org/economics-finance-domain/core-finance/stock-and-bonds/leveraged-buy-outs/v/basic-leveraged-buyout-lbo
3. View the video KKR Henry Kravis. Carefully consider the financial and ethical implications of the company’s approach to financing.  https://fod-infobase-com.eu1.proxy.openathens.net/p_ViewVideo.aspx?xtid=145045
4. Study this workshop’s devotional about the implications of debt.
5. Research and identify an example of a recent leveraged buyout that interests you. You may choose any company you like, as long as it involves an LBO transaction and you can find enough information to shed light on the deal. Use OCLS and the internet to conduct research on the reasons for the transaction and the outcome.
6. Prepare a paper analyzing the ethical and financial implications of the selected company’s LBO transaction:
   1. Provide a brief summary of the company and its LBO transaction.
   2. Explain the justifications given for the company’s decision to execute an LBO.
   3. Evaluate the impact of the LBO on the company’s stakeholders, including its shareholders and employees.
   4. Assess whether the LBO was considered successful and explain why.
   5. Explain, based on your informed opinion and research, whether executing the LBO was a good decision.
   6. Review the 5.1 Exercise regarding the biblical perspective on debt. Evaluate the LBO strategy based on biblical principles and cite a Bible verse that supports your position.
7. Be sure to provide a detailed analysis and assessment that demonstrates your critical thinking and understanding of financial analysis. Your finished paper should be 500–600 words in length and include at least three sources in addition to your biblical reference.
8. Prepare your paper in Microsoft Word in a professional manner, using proper spelling, grammar, and APA style. Include a references list. Be sure to appropriately cite your sources for any commentary or analysis you rely upon.
   1. For questions on APA style, go to OCLS APA Writing Styles Guides.
9. When you have completed your assignment, save a copy for yourself and submit a copy to your instructor by the end of the workshop.

============================================================================

5.4 Assignment: Spreadsheet Exercises

Getting Started

In the last workshop, we delved into financial planning, laying the groundwork for bringing a company’s great product and project ideas into being. In this workshop, we are examining a key decision faced by top executives: the manner in which these ideas should be funded. Just like there are many ways to run a business’s operations, there are many alternatives to providing the financing a company needs. The organization’s leaders should understand the implications of these options before making a decision. The company’s approach to financing can have a dramatic effect on its future. With this exercise, you will have an opportunity to explore the features and effects of financing decisions.

Upon successful completion of this assignment, you will be able to:

• Analyze rates of return and components of return.
• Evaluate the impact of exchange rates on returns.
• Evaluate the financial costs of raising funding for a business.
• Evaluate the impact of financial leverage on a company’s earnings and stability.

Resources

• Textbook: Analysis for Financial Management
• Website: Connect
• File: Higgins Chapter 5 Slides
• File: Higgins Chapter 6 Slides
• File: Assignment 5.4 Workbook
• File: Workshop Five Practice Problems Workbook

Background Information

Every day, businesses fail not because they don’t have great products or because they don’t operate effectively but because they make poor financing decisions. The methods of funding chosen by businesses are part of their infrastructure and can be every bit as important as the design of their products or the quality of their services. Sadly, many top executives are poorly equipped to handle financing decisions. They don’t understand how the company’s financial structure could affect its stability, flexibility, or viability. They fail to see how funding decisions could either create a competitive advantage or serious obstacles that interfere with their ability to serve customers and satisfy shareholders.

With this assignment, you will complete a series of short exercises designed to help you explore the implications of various financing decisions. Hopefully this will leave you better equipped to face such decisions with wisdom and skill.

Instructions

1. Review the rubric to make sure you understand the criteria for earning your grade.
2. In your textbook, Analysis for Financial Management, read Chapter 5, “Financial Instruments and Markets,” and Chapter 6, “The Financing Decision.”
   1. Download and review Higgins Chapter 5 Slides and Higgins Chapter 6 Slides to help you further understand the chapter concepts.
3. Study the provided practice problems and solutions in the Workshop Five Practice Problems Workbook to help you better understand the processes used to analyze financial statements.
4. Using the Assignment 5.4 Workbook (course exclusive), complete all eight of the following problems:
   1. Calculating Returns: Problems 1 through 4
   2. Determining Issue Costs: Problems 5 and 6
   3. Evaluating the Impact of Financial Leverage: Problems 7 and 8
5. Be sure your Excel spreadsheet is prepared in a professional manner, with answers clearly indicated and all your calculations shown. Full credit will not be given if your process for arriving at the answer is not fully displayed, including any intermediate steps.
6. When you have completed your assignment, save a copy for yourself and submit a copy to your instructor by the end of the workshop

======================================================

5.3 Discussion: The Goal Debate (Initial Post)

Getting Started

“Governance” could be defined simply as the mechanisms used to control a corporation and thereby ensure it seeks to maximize the best interests of its stockholders. Stockholders are the ultimate owners of a corporation. They elect representatives, who sit on a Board of Directors, to oversee the company and to hire its top executives. These managers are acting as agents of the stockholders and are legally obligated (they have a fiduciary duty) to pursue the goals set out for them by the Board.

Nevertheless, despite even the best governance processes, there is always a temptation for managers to pursue their own self-interests instead of the interests of their stockholders. This is known as an “agency problem.” Furthermore, it is not always clear what goals managers should pursue. The primary goals of corporations have been a subject of intense debate for nearly 100 years.

Upon successful completion of this discussion, you will be able to:

• Evaluate the ethical and financial implications of governance and agency problems.
• Analyze the appropriateness of various alternative primary goals for public corporations.

Resources

• Textbook: Analysis for Financial Management
• Website: Connect
• File: Higgins Chapter 5 Slides
• File: Higgins Chapter 6 Slides
• Article: The Social Responsibility of Business is to Increase its Profits

Background Information

Agency problems have been an issue with large organizations throughout recorded history. It has been said when God hired Adam and Eve to oversee His creation, it created an agency problem. Today, governance procedures should help align a company’s behavior with the priorities of its owners. However, a single company may have thousands of stockholders. These stockholders generally don’t have the time or inclination to get personally involved in the day-to-day operations of the companies they have invested in. They have little choice but to trust the agents they have hired will act in their best interests. Additionally, there are often disagreements about what a corporation’s priorities should be.

In 1951, a stockholder sued manufacturing company A.P. Smith over alleged misuse of his funds. In an apparent failure of their governance systems, the company’s executives had decided to make a large donation to the engineering school at Princeton University. The stockholder argued if he had desired to make a charitable gift, he would have done so on his own. He did not appreciate the company diverting money he had intended to fund their operations and instead using it for a cause that had no economic benefit (Pierce, 2015).

Despite this stockholder’s protestations, an appellate court ultimately ruled philanthropy was an acceptable use of funds, presuming such a gift might engender goodwill towards the corporation (Pierce, 2015). This ruling encouraged more companies to follow suit. By the 1960s, several “5 percent clubs” (Vogel, p. 20) had emerged in the United States. These groups were made up of companies who had committed to give at least 5% of their pretax earnings to charity.

In 1970, famed economist and Nobel Prize winner Milton Friedman responded to this movement. In an article for New York Times Magazine, he boldly proclaimed, “there is one and only one social responsibility of business—to use its resources and engage in activities designed to increase its profits” (p. 126). He went on to say anything else was “collectivist doctrine…and fundamentally subversive” (p. 126). This article became the focus of four decades of scholarly debate.

References

Friedman, M.  (1970, September 13). The social responsibility of business is to increase its profits. The New York Times Magazine, 32–33, 122, 124, 126. http://umich.edu/~thecore/doc/Friedman.pdf

Pierce, J. (2015).  The rights of shareholders in authorizing corporate philanthropy. Villanova Law Review, 60(2), 1–32. https://digitalcommons.law.villanova.edu/cgi/viewcontent.cgi?article=3271&context=vlr

Vogel, D. J. (2005). Is there a market for virtue? The business case for corporate social responsibility. California Management Review, 47, 19–45.

Instructions

1. Review the rubric to make sure you understand the criteria for earning your grade.
2. In your textbook, Analysis for Financial Management, read Chapter 5, “Financial Instruments and Markets,” and Chapter 6, “The Financing Decision.”
3. Download and review Higgins Chapter 5 Slides and Higgins Chapter 6 Slides to help you further understand the chapter concepts.
4. Study Milton Friedman’s (1970) article, The Social Responsibility of Business is to Increase its Profits, on the primary goals of a corporation.   http://umich.edu/~thecore/doc/Friedman.pdf
5. Navigate to the threaded discussion and respond to the following prompts:
   1. What is the primary goal a publicly traded corporation should pursue and why?
   2. Support your position with at least one biblical principle with a specific Bible verse that you feel is relevant to the situation. Explain how and why it applies.
6. Your post should be based on the chapters, as well as other resources that can contribute to the discussion. Use OCLS to search for relevant scholarly sources you can use to support your position.
7. This initial post should be 200–400 words in length and include at least one academic source that is properly cited. Your post is due by the end of the workshop.
   1. For questions on APA style, go to OCLS Writing Styles Guides.
8. A single post asserting your position is all that is required for this assignment. However, be prepared to defend your position in the following workshop.