Description
Documentation about analysis of compaq HP merger deal design along with Deal Valuation, exchange ratio and accretion/dilution impact, benefits of merger of equals, integration plan
GROUP 5
THE MERGER OF HEWLETT-PACKARD AND COMPAQ(B): DEAL DESIGN
Investment Banking
Harini V Valluri (10313) Rakesh Salecha (10138) Ranjeetha V (10141) Shiva kumar Awati (10161)
8/3/2011
Evaluate the deal terms?
Deal Valuation
Structure Exchange Ratio Current Value Ownership Purchase Expected Closing
Stock-for-Merger 0.6325 of an HP share per Compaq share Approx. $25 billion HP shareholders 64%; Compaq shareholders36% All stock purchase First half of 2002
Hp will retain its name. Fiorina - CEO & chairman in the new company. Capellas – President in the new company.
Deal Valuation
The final Exchange Ratio Exchange ratio implied by the market as on 31 Aug, 2001 Compaq·s Valuation by the market pre-merger announcement Compaq·s Valuation by HP as implied by the final exchange ratio $24.995 billion $20.995 billion 0.5356 HPQ shares per Compaq share 0.6325 HPQ shares per Compaq share
Ownership of Hewlett and Packard Families
18.6% before merger 8.4% after merger
Both the companies seem to have pegged their valuation based on the growth of IT industry. After all, there is no other industry that has a growth prospective that IT industry has it is obvious that the companies value them at a higher rate.
2: Evaluate the exchange ratio and accretion/dilution impact. ? The exchange ratio, based on the Market Price before merger announcement and synergy values proposes to be in the range of 0.53 to 0.77, i.e. in case of MOE, the exchange ratio has to be set at 0.53 and in case all synergy are realized and passed on to the target company shareholders exchange ratio has to be set at 0.77. However HP has chose to walk between the two options and has set the exchange ratio at 0.63, which happens to be the 3 year average of the two stock price ratios. Hence from market price perspective this is a MOE, but it is to be noted that HP is paying a substantial premium to the share holders of Compaq. ? There is a dilution in EPS of the shareholders of HP, post merger. The EPS per share HP prior to merger is being diluted from $0.32 to $(0.34). Hence there is a reduction of 66 cents in the EPS and with EPS in negative P/E ratio at CMP of $ 23.21 is ?. This dilution is before the considersation of synergy realization.
3. Critique on the merger of equals?
? ? ? The company was still inefficient. This was because it could not meet the targets due to a failure of both company and industry. HP was forced to cut down on jobs So, it was decided that the company would be merging with Compaq in a stock transaction whose net worth was 25 billion dollars. It lead to developing a competitive strategy and finally a merger.
Why Merge? (benefits of merger of equals) ? ? ? ? ? ? ? Merger would eliminate one player in an oversupplied PC marketplace. To compete with IBM and other companies Reduce Costs. Merger expected to yield savings projected to reach $2.5bn annually by 2004. Advantage of more volume of sales. Development of direct distribution capability. Strengthen sales force. Improve customer base.
This is not a merger of equals because: ? ? ? ? HP’s Business Portfolio Will Be Worse The Integration Risk of the Proposed Merger is Substantial Negative Financial Impact on HP Stockholders HP’s Strategic Position Will Not Materially Improve
4. Evaluate the integration plan.
• • Merger would create potential competitive advantages from integration, greatly improving its product-market position across the computing business HP was strong in mid-range and high end UNIX servers, a weakness for Compaq; while Compaq was strong in low end industry standard(Intel) servers, a weakness for HP Compaq was clear #2 in the PC business and stronger on the commercial side, but HP was stronger on the consumer side. Together they would be #1 in market share The merged entity would have scale advantages; gaining bargaining powers with suppliers With the stronger portfolio, HP would gain “scope” advantages by selling across the board portfolio Formulating the Integration Logic and Performance goals
•
• • •
Execution of Integration plan:
o o o o o o Integration team presented a monthly report to all executive committee members and was reviewed at their meetings Short term synergy goal of $2.5 billion $ was exceeded by over $1billion Tasks related to people selection, reduction plan, pay systems were implemented on schedule Procurement savings plan was also implemented rapidly. $1.1 billion saved in first 6 months in procurement Failure to pick up key customer concerns Failing to revise original assumptions cause of internet bust because of no clear feedback loop to the preceding part of the process
5. Decide how to vote.
Criteria 1: valuing synergy.
NOTE: same as question 3 of case A
3.) What was the Value of synergies?
The merger helped HP realize a projecting recurring, annual, pretax cost savings of USD 2.5 bn or USD of 5 - USD 9 per share by mid 2004. Besides, HP could expect to produce improved overall operating margins of 8 -10 percent in the company’s 2003 fiscal year.
In Millions Assets Revenue EBIT
HP Compaq 32584 23689 45226 33554 2030 479
Individual values: HP assets of 32b and Compaq assets of 23b. EBIT margins of 4.5% for HP and 1.4% for Compaq. Value of Synergy:
HP No. Of Shares Share Price(Sept 4, 2001) Market Capitalisation Share price of Compaq + premium Market Capitalisation(premium) Compaq 1936 1689 18.87 11.08 36532.32 18714.12 11.94 20166.66
? Synergy of 2500 million “HP cost savings would reach $2.5 billion a year by 2004.” Terminal Value: = 2500/(cost of capital – growth). T.V = 2500/(0.15 – 0.0 ) Growth of synergy is assumed to be 0%.
Synergy T.V 2500 16666.67
Therefore, terminal value of benefits of synergy is 16667 millions.
Present value of HP + Compaq = PV of HP + PV of Compaq + value of Synergy
PV of HPQ = 36532.32+18714.12+16667 = 71913.11
PV Compaq Shareholders
71913.11 0.36 25888.72
Compaq shareholders of 36% Value of Compaq of 25888.72 ( Including Synergy ) Value paid to shareholders = 11.94*1679 = 20166.66
Value of Synergy = 25888.72 – 20166.66 = 5722.058 millions.
? THEREFORE, the Value of synergy is around 5.72 billion dollars. ? They should vote for MERGER.
Criteria 2: Integration risk is substantial.
?
The shareholder should not vote for the merger as there might be problems in integrating the two companies which operates in differently growing markets. Their strategy of doing business is quite different. This might lead to a dilution of value of the company and in the long term will adversely affect the share prices. ? Very difficult to mesh cultures. ? Assumptions are too optimistic. o 4.9% revenue loss assumption is too low. o 12% Contribution Margin Assumption on Lost Sales is too Low. ? Stock prices of IBM raised, but HP and Compaq were declining. ? Financial impact on HP stockholders is unattractive ? Portfolio shift is unattractive.
? They should not vote for MERGER.
doc_137775373.docx
Documentation about analysis of compaq HP merger deal design along with Deal Valuation, exchange ratio and accretion/dilution impact, benefits of merger of equals, integration plan
GROUP 5
THE MERGER OF HEWLETT-PACKARD AND COMPAQ(B): DEAL DESIGN
Investment Banking
Harini V Valluri (10313) Rakesh Salecha (10138) Ranjeetha V (10141) Shiva kumar Awati (10161)
8/3/2011
Evaluate the deal terms?
Deal Valuation
Structure Exchange Ratio Current Value Ownership Purchase Expected Closing
Stock-for-Merger 0.6325 of an HP share per Compaq share Approx. $25 billion HP shareholders 64%; Compaq shareholders36% All stock purchase First half of 2002
Hp will retain its name. Fiorina - CEO & chairman in the new company. Capellas – President in the new company.
Deal Valuation
The final Exchange Ratio Exchange ratio implied by the market as on 31 Aug, 2001 Compaq·s Valuation by the market pre-merger announcement Compaq·s Valuation by HP as implied by the final exchange ratio $24.995 billion $20.995 billion 0.5356 HPQ shares per Compaq share 0.6325 HPQ shares per Compaq share
Ownership of Hewlett and Packard Families
18.6% before merger 8.4% after merger
Both the companies seem to have pegged their valuation based on the growth of IT industry. After all, there is no other industry that has a growth prospective that IT industry has it is obvious that the companies value them at a higher rate.
2: Evaluate the exchange ratio and accretion/dilution impact. ? The exchange ratio, based on the Market Price before merger announcement and synergy values proposes to be in the range of 0.53 to 0.77, i.e. in case of MOE, the exchange ratio has to be set at 0.53 and in case all synergy are realized and passed on to the target company shareholders exchange ratio has to be set at 0.77. However HP has chose to walk between the two options and has set the exchange ratio at 0.63, which happens to be the 3 year average of the two stock price ratios. Hence from market price perspective this is a MOE, but it is to be noted that HP is paying a substantial premium to the share holders of Compaq. ? There is a dilution in EPS of the shareholders of HP, post merger. The EPS per share HP prior to merger is being diluted from $0.32 to $(0.34). Hence there is a reduction of 66 cents in the EPS and with EPS in negative P/E ratio at CMP of $ 23.21 is ?. This dilution is before the considersation of synergy realization.
3. Critique on the merger of equals?
? ? ? The company was still inefficient. This was because it could not meet the targets due to a failure of both company and industry. HP was forced to cut down on jobs So, it was decided that the company would be merging with Compaq in a stock transaction whose net worth was 25 billion dollars. It lead to developing a competitive strategy and finally a merger.
Why Merge? (benefits of merger of equals) ? ? ? ? ? ? ? Merger would eliminate one player in an oversupplied PC marketplace. To compete with IBM and other companies Reduce Costs. Merger expected to yield savings projected to reach $2.5bn annually by 2004. Advantage of more volume of sales. Development of direct distribution capability. Strengthen sales force. Improve customer base.
This is not a merger of equals because: ? ? ? ? HP’s Business Portfolio Will Be Worse The Integration Risk of the Proposed Merger is Substantial Negative Financial Impact on HP Stockholders HP’s Strategic Position Will Not Materially Improve
4. Evaluate the integration plan.
• • Merger would create potential competitive advantages from integration, greatly improving its product-market position across the computing business HP was strong in mid-range and high end UNIX servers, a weakness for Compaq; while Compaq was strong in low end industry standard(Intel) servers, a weakness for HP Compaq was clear #2 in the PC business and stronger on the commercial side, but HP was stronger on the consumer side. Together they would be #1 in market share The merged entity would have scale advantages; gaining bargaining powers with suppliers With the stronger portfolio, HP would gain “scope” advantages by selling across the board portfolio Formulating the Integration Logic and Performance goals
•
• • •
Execution of Integration plan:
o o o o o o Integration team presented a monthly report to all executive committee members and was reviewed at their meetings Short term synergy goal of $2.5 billion $ was exceeded by over $1billion Tasks related to people selection, reduction plan, pay systems were implemented on schedule Procurement savings plan was also implemented rapidly. $1.1 billion saved in first 6 months in procurement Failure to pick up key customer concerns Failing to revise original assumptions cause of internet bust because of no clear feedback loop to the preceding part of the process
5. Decide how to vote.
Criteria 1: valuing synergy.
NOTE: same as question 3 of case A
3.) What was the Value of synergies?
The merger helped HP realize a projecting recurring, annual, pretax cost savings of USD 2.5 bn or USD of 5 - USD 9 per share by mid 2004. Besides, HP could expect to produce improved overall operating margins of 8 -10 percent in the company’s 2003 fiscal year.
In Millions Assets Revenue EBIT
HP Compaq 32584 23689 45226 33554 2030 479
Individual values: HP assets of 32b and Compaq assets of 23b. EBIT margins of 4.5% for HP and 1.4% for Compaq. Value of Synergy:
HP No. Of Shares Share Price(Sept 4, 2001) Market Capitalisation Share price of Compaq + premium Market Capitalisation(premium) Compaq 1936 1689 18.87 11.08 36532.32 18714.12 11.94 20166.66
? Synergy of 2500 million “HP cost savings would reach $2.5 billion a year by 2004.” Terminal Value: = 2500/(cost of capital – growth). T.V = 2500/(0.15 – 0.0 ) Growth of synergy is assumed to be 0%.
Synergy T.V 2500 16666.67
Therefore, terminal value of benefits of synergy is 16667 millions.
Present value of HP + Compaq = PV of HP + PV of Compaq + value of Synergy
PV of HPQ = 36532.32+18714.12+16667 = 71913.11
PV Compaq Shareholders
71913.11 0.36 25888.72
Compaq shareholders of 36% Value of Compaq of 25888.72 ( Including Synergy ) Value paid to shareholders = 11.94*1679 = 20166.66
Value of Synergy = 25888.72 – 20166.66 = 5722.058 millions.
? THEREFORE, the Value of synergy is around 5.72 billion dollars. ? They should vote for MERGER.
Criteria 2: Integration risk is substantial.
?
The shareholder should not vote for the merger as there might be problems in integrating the two companies which operates in differently growing markets. Their strategy of doing business is quite different. This might lead to a dilution of value of the company and in the long term will adversely affect the share prices. ? Very difficult to mesh cultures. ? Assumptions are too optimistic. o 4.9% revenue loss assumption is too low. o 12% Contribution Margin Assumption on Lost Sales is too Low. ? Stock prices of IBM raised, but HP and Compaq were declining. ? Financial impact on HP stockholders is unattractive ? Portfolio shift is unattractive.
? They should not vote for MERGER.
doc_137775373.docx