Grand Met Case

Topics: Weighted average cost of capital, Dividend yield, Capital structure Pages: 4 (1125 words) Published: February 18, 2013
Grand Metropolitan PLC

Company Background and Issues

Grand Metropolitan PLC was a multinational holdings company that faced a hostile takeover threat in the late 1980's and early 1990's. The company specialized in wine and spirits. The headquarters for operation was in London, England at the time of this case.

The major dilemma at hand is avoiding a takeover. The economy was bad at the time, and the company's stock price was thought to be undervalued, as their low P/E ratio of 13.3 indicated. Management needs to find out why their stock price is so undervalued.

A new strategy of Grand Metropolitan's was to capitalizing brand value on the balance sheet. Another strategy of management was to divest in low growth areas and invest heavier in projects that meet a certain growth criteria. The CEO stated, "In addition to brewing, we have continued to exit those businesses whose failure potential earnings do not meet our growth criteria… All those decisions were driven by a thorough analysis of income growth prospects". Senior management is committed to reducing debt. In 1991 alone the debt to capital ratio fell by 9%. Management has shown to be committed to these goals into the future. One of the issues management will have to face is how to tell which business units are outperforming others.

Despite the great performance of Grand Metropolitan as a company during the 1980's, the stock was undervalued in the early 1990's. This is the immediate issue management must address to avoid a takeover.

Financial Analysis

Cost of Capital:

Our estimate of the pound-based weighted average cost of capital for Grand Metropolitan was 16.433862%. We used the weights from exhibit 6. The tax rate was given as 35%. We used the weighted average costs of debt and preferred stock from exhibit 7. We then discounted the flow of future dividends to find the cost of common equity. We also used the three strategic business units to find the approximate...
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