1. What happens if Kmart's managers decide NOT to accept the Leonard Green offer?
If Kmarts managers decide not to accept the offer they become limited in their options:
● They can continue to wait for a better bid, but they have struggled to get any one interested in their company as it is. If they decide to turn down Green, but end up not securing another buyer, they would be forced to return to Green who could offer a much lower bid because Kmart would now be left out of options.
● It was also projected that Builders Square only had enough cash and working capital to continue its operations for one more year without any other changes. So their other option is to try and restructure themselves again so that they can continue operations and at least make enough money to pay off their leases. We believe this method would be very hard to pull off, since Builders Square has been trying to do this for the last couple years with no success. Although they have tried to fix themselves already, they can’t, which is why they are looking for bidders.
● In dire circumstances, Kmart could just liquidate all of Builders Square assets and use them to pay off debt. Then they could sublease out their empty buildings and use the rent revenue to continue to pay their contracted leases.
2. If Kmart's managers were to accept the Leonard Green offer, what would they receive as compensation? What would they give up?
● In the merger, Kmarts managers would receive $10 million in cash and warrants that if exercised could give Kmart up to 30% ownership in the new firm.
● Kmart would turn over 162 of its stores to LGP as well as its Builders Square headquarters, but then would receive 25 of the buildings back so that they could use them for other purposes (renting to others, putting in new Kmart stores). LGP would also assume Kmart’s $2 billion in long-term lease obligations, but Kmart would remain liable if the new company were to fail. Kmart would also have to forfeit $10.7 million payment in kind to the new LGP holding company.
3. Assuming that Kmart moves forward with Leonard Green proposal, how do you think the newly-formed Builders Square/Hechinger firm will perform? What problems will it solve (if any)? What problems remain (if any)?
● We believe that the newly formed Builders Square/Hechinger firm will still struggle competing with Home Depot and Lowes, who have most of the market share. Overall, we think that combining two failing companies will just create one bigger failing company.
● Advantages that come with the merger are that it will be a larger company with more potential for economies of scale. The new firm should be able to increase their profit margin by decreasing costs, possibly by receiving discounts for buying in bulk.
● The problems that this new company will face, according to Exhibit 12, is that over 50% of its stores will be directly competing with Home Depot. Another issue that still remains is that the new firm is not using clustering in their location strategy. This is something that Home Depot and Lowes both utilize in order to maximize profits and that the newly formed Builders Square/Hechinger will lack.
4. Should Kmart's managers care about the fate of the new Builders Square/Hechinger? What happens to Kmart if Builders Square/Hech performs well? Performs poorly?
Managers need to care about the fate of the new company. As part of the merger deal, Kmart will receive 30% ownership through warrants, and they will be contingently liable for 147 of their leases. If the new company does well, Kmart can exercise their warrant and become part owners in a new successful company. If the newly merged company does well enough, Kmart may even consider buying it back after 5 years. However, if Leonard Green’s plan doesn’t work, Kmart remains liable for the leases that it had guaranteed for Builders...