Atlantic Corp

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Atlantic Corp – case study|

Question 1: Is the acquisition of Royal’s Linerboard mill and box plants a sound strategic move? Yes. Atlantic corporation intends to increase its linerboard capacity, as it is a net buyer of linerboard. This acquisition of Royal by Atlantic Corporation would be a horizontal integration, which occurs when both the firm being taken over and the firm taking over are in the same industry and in the same stage of production. The linerboard industry has very high fixed costs ( as plant and equipment are its main expense) due to which the operating leverage is very high. The acquisition of Royal could help Atlantic Corporation increase its output with increase in production capacity in turn generating higher profits. The industry capacity for producing linerboard is very tight and the industry is operating at nearly 100% utilisation. Increasing capacity to produce linerboard takes a significant period of time (2-3 yrs minimum). Both these reasons coupled with the rising demand for linerboard has an impact on the prices for linerboard. Linerboard prices are expected to increase significantly in the near future (from approx $270 per ton in 1983 to more than $420 per ton in 1986). If Atlantic were to reduce its purchases of linerboard from its competitors, it would be able to enhance its own profitability by benefiting from the anticipated appreciation of linerboard, and reducing its own cost of goods sold. At an expected purchase price of $319mm (for the linerboard plant as well as box plants), the acquisition represents a more than 50% discount to the cost of setting up a similar plant. Moreover, the acquisition will provide Atlantic with an immediate source of linerboard, as compared to a 2-year gestation period if it were to build its own plant. Another benefit for Atlantic Corporation is that the specific firm’s profits are heavily related to interest rate fluctuations and is consequently exposed to interest rate risk. This risk could be hedged sufficiently if Atlantic Corporation can get a strong foothold in the linerboard industry as the industry is less sensitive to interest rate fluctuations. From the point of view of the target, the acquisition would give Royal the financial flexibility it requires to protect itself from hostile investors.

Question 2: What is the outlook for linerboard prices and for the profitability of the linerboard industry?  Linerboard sales are closely related the economic activity in the nation as measured by GNP. The industry follows the economic cycle. An upward cycle stimulates demand for linerboard. In years with high production and consumption for linerboard, it can be seen from Exhibit 2 that the change in Real GNP has been positive.  The change in Real GNP between 1982 and 1983 has been 8.8%. In this same period, it can be seen that the production (in ‘000 tons) and consumption has increased from 13,494 to 14900 and 11707 to 12775 respectively. It is estimated the change in real GNP will continute to remain positive in 1984 and 1985 having a positive impact on production and consumption for linerboard.  Linerboard and box sales are expected to increase 7% due to the expected pick-up in industrial activity in 1984. Demand for the product is highly correlated to the amount of goods being shipped in the nation.  With only 1% to 2% of new linerboard capacity coming online before 1986, prices will be expected to increase to more than $420 per ton by the end of 1986, from $290 in the last quarter of 1983, a 45% increase in 3 years. The high demand will also lead to high utilization of existing capacity. This, combined with the expected price increases, should lead to excellent profitability for the industry given that all other factors remain as expected.

3. What basis, if any, is there for expecting Atlantic-Royal’s combined linerboard and box mill operations to do better / worse than the industry overall? Atlantic Corporation is...
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