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Shareholder Value Creation Case Study

Shareholder Value Creation
Shareholder Value Creation

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Shareholder Value Creation

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  1. Case 5: Genzyme and related investors:

Objective of this case

  • The case focuses on corporate governance issues by discussing how the objectives of a large activist shareholder can potentially conflict with the core vision of the target company’s management.
  • Learning how capital investment and payout policy decisions can affect shareholder value creation.
  • The case offers an opportunity for discussion on how board composition and executive compensation may help align management with shareholders’ interests in a public company.
  • Please listen to the video first: http://youtu.be/6LF_CB7Pa3U

Shareholder Value Creation

Summary of case 5

Genzyme reached record revenues of $4.6 billion in 2008 and was expected to generate an increasing level of free cash flow in coming years. But operational problems in one manufacturing plant had led to a warning letter in late February 2009 from the U.S. Food and Drug Administration (FDA), which, combined with news on impending health care reform, had pushed Genzyme’s stock price from a high of $70.42 down to a low of $56.38.

Genzyme was being targeted by Relational Investors (RI), an “activist” investment fund that had a 2.6% stake in the company at the end of March 2009. RI had a history of engagements with the boards of numerous companies that, in several instances, resulted in the CEO’s forced resignation.

Ralph Whitworth, RI cofounder and principal, met with Termeer and delivered a presentation, arguing that Genzyme was trading at a discount.

He offered recommendations on how Genzyme could address this:

(1) improve capital allocation decisions;

(2) implement a share-buyback or dividend program;

 (3) improve board composition by adding more members with financial expertise; and

 (4) focus executive compensation on performance metrics.

Shareholder Value Creation

Table 1

  Data in Case:
What’s a biotech company?Rare diseases/genetic disorders/small populations FDA approval (expensive/slow/low probability)Case pgs. 2–3
How do you succeed?Orphan drug (seven-year exclusive) Intensive R&D/strong pipelineCase pgs. 2–3 Case Exhibit 4
Genzyme’s business modelDiversified: segments (GD-CR-BI-HO)     GD CR BI HO Other % revenues 53% 22.8% 10.6% 2.4% 11.1% CFROI 25.8% 8.8% Acquisitions ($ million 97–07) 12 1,943 942 2,081 596   Free cash flows (funding acquisitions): expected to grow    Case Exhibit 7 Case Exhibit 8 Case Exhibit 6     Case Exhibit 13
Genzyme’s financial strategyNo dividends and open-market repurchases (some competitors do!) No debtCase p. 6 Case Exhibits 1 and 4

GENZYME AND RELATIONAL INVESTORS:

SCIENCE AND BUSINESS COLLIDE?

Table  2

  Data in Case:
What is Relational Investors?Activist investor (vs. Carl Icahn or others?) Engagement battles (% acquired, changes, length of stay?) Performance  Case Exhibits 10 and 11 Case Exhibit 9
Keys to success?Industry expertise—CFROI analysis Focus: corporate governance Quick turnover: invest, make changes, exit!Case Exhibit 8
Why target Genzyme?Intrinsic vs. market value Free cash flow Focus on GD—CFROI 2.6% stake—is that a lot? other shareholders?Case Exhibit 12 Case Exhibit 13 Case Exhibits 7 and 8 Case Exhibits 2 and 11

Shareholder Value Creation

GENZYME AND RELATIONAL INVESTORS: SCIENCE AND BUSINESS COLLIDE?

Table  3

IssueRelational Investors’ CriticismsGenzyme’s DefenseWhat Happened?
Capital allocationDiversification outside GD (case Exhibit 6) is destroying shareholder value because non-GD segment’s CFROI low (case Exhibit 8).Diversification is necessary and investments in biotech take long time to pay back.Capital allocation committee (chaired by Whitworth); hold on new acquisitions; sale of genetics testing business (2010-Q3).
Share repurchaseFCF should be returned to shareholders in buybacks (see other firms—case Exhibit 4) when internal use generating less than cost of capital (case Exhibit 8).Need FCF to make long-term investments.  Announcement of $2 billion open-market share buyback program and debt issue (2010-Q2).
Board compositionNeed new board members with finance and accounting backgrounds.Termeer needs board on his side in case of fight (as with Icahn in 2007).Added to board: Bertolini, Whitworth, one Icahn director (Burkaroff) and two independent directors. (Exhibit TN5)
Executive payIncentives are based on revenue generation and not profitability.Sensitive subject for Termeer and board.Revised bonus incentive structure

Assignment of case 5

  1. What is the business model for Genzyme? What does Termeer want for his company going forward?

      See table 1 of case 5 in the case reading file

  • What is the business model for Relational Investors?

See the table 2 in the case reading file

a.  Or can Termeer manage him by agreeing to some of Whitworth’s demands but avoid giving into demands that might compromise the core mission of Genzyme?

b.  If so why? How might those changes improve or adversely affect the company and performance?

See the table 2 in the case reading file

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Shareholder Value Creation Case Study Essay

Case 5

The business model is the treatment aiming at individuals with genetic diseases. Genzyme’s business model is diversified with five segments namely: GD, CR, BI, HO and other. Percentage revenue generated by GD, CR, BI, HO and other are….

What is the business model to the rational investor?

The business model of Rational Investor is concerned with profits and rational investor aims at companies with bad…

Should Termeer fight Whitworth?

Termeer should try to create a compromise for both his key missions for…..

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Corporate Value Creation Case Study

Corporate Value Creation
Corporate Value Creation

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Corporate Value Creation

  1. Case 4: The Battle for Value, FedEx Corp. vs UPS

Summary of case 4:

This case assesses the financial performance of FedEx Corp. and United Parcel Service, Inc (UPS). The two firms have competed intensely for dominance of the overnight express package industry. This case is intended for use in an introductory discussion of corporate value creation and its sources.

Objectives:

The contrasting record of the two firms affords a platform to:

  • Define excellence from a corporate-finance perspective.
  • Assess economic profit analysis (also known as Economic Value Added) and, more generally, the measurement of financial performance and health. The case provides a complete historical economic profit analysis for both firms, and permits comparison with other classic approaches to historical performance analysis.
  • Evaluate the financial implications of rigorous competition and corporate transformation.

Corporate Value Creation

Main concepts of case 4

  1. Economic Value added: definition, Strength and weakness, the factors that affect EVA

Key information:

1.    FedEx is growing more rapidly than UPS.

2.    The stunning comparison between FedEx and UPS appears in the returns to investors, given in case Exhibit 8, and summarized in the third row of Table 1.

3.    Economic profit analysis is generally consistent with the market return analysis.

Table 1. The strengths and weaknesses of various financial measures.

     Strengths  Weaknesses
  1. Direct inspection of the financial statements  Reveals trends Comparison of absolute sizes  Does not permit a ready assessment of efficiency Biased by size differences Book, not market, values Influenced by GAAP choices Backward, not forward, looking
  2. Financial ratios  Adjusts for size differences (a relative, not absolute, measure)Provides comparative measures of efficiency and growth  Based on book, not market, values Influenced by GAAP choices
  3. Earnings per share (EPS) and price/earnings ratios  Widely-used measures of performance Linked to market price of stock  EPS influenced by GAAP choices
EPS is not a cash flow P/E difficult to interpret Sensitive to choice of observation period
  4. Total returns to investors  Cash flow based Market value based Permits bench marking vs. other investments  Sensitive to choice of observation period Needs to be risk adjusted
  5. Economic profit (EVA)  Risk adjusted Permits bench marking Theoretically linked to market values Logically appealing Increasingly widely used  Influenced by GAAP choices Ignores latent option values  

Table 2 THE BATTLE FOR VALUE, 2004: FEDEX CORP. VS. UNITED PARCEL SERVICE, INC.

Corporate Value Creation

Summary of Comparative Results

   FedExUPSSource (case exhibit number)
  Financial ratio analysis   Activity   Liquidity   Leverage   Profitability   Growth    Improving Improving Declining Worse than UPS High    Weakening Better than FedEx Consistently low Better than FedEx Lower than FedEx2, 3
  EPS  EPS compound annual growth rate (CAGR) 1993–2003 EPS compound annual growth rate (CAGR) 1999–2003        27.54%     6.98%      13.89%     34.30%8
  Total market returns   Cum. total return (1992–2003) Cum. return net of S&P (1992–2003)        528.02% 372.83%        705.95% 550.75%  8
  Economic profit – EVA 2003   Cumulative for 1992–2003 EVA Market value added Difference  (in millions)    $170     ($2,252) $11,191 $13,443  (in millions) $1,195     $4,328 $62,028 $57,7009, 10

Case 4 Assignment

1)  What happened to FedEx and UPS’s stock price in early 2004? Why did they rise? Why did one outpace the other? In an efficient market, how are we to interpret FedEx’s 14% increase in market value?

  • how is a stock value determined?
    • how does the air-transportation agreement affect the two firms stock price?
      • both UPS and FedEx had been laying the foundation for a regional- and international-delivery business in China since the late 1990s. Thus, the latest announcement may indicate the market’s acceptance of that strategy and both firms’ ability to exploit that opportunity.
      • FedEx had acquired air routes into China as early as 1995, whereas UPS did not begin its direct flights into China until 2001.

2) How have UPS and FedEx performed financially? How do you measure financial performance? What do the financial statements and ratios show? What does the stock-price performance tell you? How is EVA calculated? What does it reveal? Does stock price track the historical EVA?

  • Discuss this questions based on the table 1 and table 2 in the case study file
  • EVA: a measure of a company’s financial performance based on the residual wealth calculated by deducting its cost of capital from its operating profit, adjusted for taxes on a cash basis.

3) This is a pretty depressing picture for FedEx: Why hasn’t its stock price fallen in absolute terms? How can we rationalize the expectation that FedEx will preserve the value that it currently has?

  • Hint: think of the EVA limitation in table 1.

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Corporate Value Creation Case Study Essay

Part 1

What happened to FedEx and UPS’s stock price in early 2004?The stock price of both FedEx and UPS increased. There was an increase in the price of both the companies because of the companies cum total return from 1992 to 2003, as well as the EPS compound annual growth rate, is high though compound growth rate for FedEx decreased within the years 1999 to 2003. Economic value added of the two companies within 1992 to 2003 is significant. EVA is a representation of company performance and it focuses on shareholders’ value hence its high value shows that the company stock price of the companies in…

Part 2

UPS financial risk is low since its analysis ratio on leverage is low while FedEx financial risk is reducing as indicated by its leverage ratios. Both UPS and FedEx are more liquid, liquidity ratios show that both firms are performing better. Activity ratios show that FedEx is more active than UPS. In conclusion, the two firms’ financial performance is….

Part 3

FedEx profitability ratio is worse, showing that the company is less profitable. Low profitability of a company lowers the company EPS thus lowering its…..

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