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The Restructuring Environment

The Restructuring Environment. Motives and Methods. Main Motives for Restructuring Strengthen incentives Better business fit Sharpen management focus Create pure plays with unique investment appeal Roll back unproductive investments Stop subsidizing un-profitable divisions

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The Restructuring Environment

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  1. The Restructuring Environment Motives and Methods

  2. Main Motives for Restructuring • Strengthen incentives • Better business fit • Sharpen management focus • Create pure plays with unique investment appeal • Roll back unproductive investments • Stop subsidizing un-profitable divisions • Higher value use of assets • Increased debt capacity • Reduced taxes Methods and Motives: Stewart and Glassman

  3. Categories of Restructuring • Asset restructuring: Change ownership status of assets • Business unit restructuring: acquisitions, joint ventures, carve-outs, spin-offs • Corporate Restructuring: change in ownership structure of a parent such as new security offers, share repurchases, leveraged ESOP, leveraged cash outs, sale or liquidation

  4. Importance of Debt • Debt is cheaper than equity • Concentration of equity ownership reduces agency costs (How?) • Debt adds discipline (How and Why?)

  5. Reasons for Aggressive Debt Use • Cash disgorgement: (i.e., discipline) • SOHIO: Why high ROE and MV/BV but not P/E? • Ross Johnson of RJR Nabisco: will people spend money carelessly? • Agency problems • To what degree is the market more "astute than the corporate manager? • To what degree do we rely on internal or external control? (see pg. 588) • Does technical sophistication lead to business sophistication?

  6. Methods: Returning Control of Cash to the Market • Repurchase shares • Exxon and overcapacity • Leveraged Recapitalization • Does the corporation get better terms if it restructures on its own? (i.e., Compare Gulf to Exxon) • Partnerships • Mesa Petroleum: replaced R&D with interest payments

  7. Returning Control of Cash to the Market • Leveraged Acquisitions • SOCAL "white knight" takeover of Gulf • Payout dividends • Is this a good idea? • Carve-outs • A partial public offering • Easier to value an "unbundled" set of units

  8. Restructuring to Align Incentives with Shareholder Interests • See Stewart table on page 593 • What happens as we move from left to right? • How do incentives change with the form of compensation? • What is the allocation of risk and return?

  9. The Leveraged Cash Out • Nature of the Transaction • All existing shares replaced with cash and new shares (not a buyout): cash raised with debt • Shareholders compensated for existing value • Employees and management given new incentive package: residual compensation structure ("thrift plan" for employees, ownsership paln for management • Impact on Agency Costs • Impact on Wealth and Risk allocation

  10. External and Voluntary Restructuring • External: restructuring imposed on management by outside pressure from equity investors • Voluntary: restructuring initiated internally in respose to the need to do so.

  11. Mature markets: growth slows to industry average Tax policies favor retention and reinvestment Role of the "Social Environment" in the 1950's - 1970's Internal capital market response: Diversify Concentrated capital

  12. Lack of External Capital Market Opposition in the 1950's - 70's Passive investors Flawed analysis Founder interest Inertia

  13. How does the case of Armco Steel Illustrate Inertia? Was Armco going around in circles?

  14. Imperatives for Change: Voluntary Restructuring • Four Pre-conditions (necessary but not sufficient • Evidence of flawed strategy or structure • Shift in power balance to favor disadvantaged constituencies • Availability of alternative options • Leadership

  15. Importance of Leadership • Restructuring requires a champion: one person usually leads the charge • Importance of concentration and focus • Why did so many internal restructuring efforts fail in the 80's? • Emphasis on TQM: participation • Japanese management: consensus • Competing constituencies

  16. Burlington Northern Case • What does the Burlington Northern case teach about the importance of leadership?

  17. Trigger Events: Sufficiency • Common Trigger Events: • Sudden and visible deterioration (Armco) • Change in CEO (Burlington Northern) • Internal intervention by strong personality (Household International, Burlington Northern)

  18. Safeway: Internal and External Restructuring • What is the story of Safeway? • What is the "trigger event," and what is its critical role?

  19. Redistributive Effects of Restructuring: Initial Inquiry • What have the redistributive effects of restructuring been to date? • Impact on investors • Broad perspective: "The market" • Narrow perspective: Institutions and Individuals • Impact on employees • Impact on Management • What role have "agency costs" played?

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