Investment and Hurdle Rates

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Raiders Dials Teletech
Wake-up Call Needed Says Investor

New York (AP)---The reclusive billionaire Victor Yossarian has acquired a 10 percent stake in Teletech Corporation and has demanded two seats on the firm’s board of directors. The purchase was revealed yesterday in a filing with the Securities and Exchange Commission, and separately in a letter to Teletech’s CEO, Maxwell Harper. “The firm is misusing its resources and not earning an adequate return,” the letter said, “The company should abandon its misguided entry into comput-ers, and sell the Product and Systems Segment. Management must focus on creating value for shareholders.” Teletech issued a brief statement emphasizing the virtues of a link between com-puter technology and



Margaret Weston, Teletech’s chief financial officer, learned of Yossarian’s letter late one eveing in early January 1996. Quickly she organized a team of lawyers and finance staff to assess the threat. Maxwell Haper, the firm’s CEO, scheduled a teleconference meeting of the firm’s board of directors the next afternoon. Harper and Weston agreed that before the meeting they needed to fash-ion a response to Yossarian’s assertions about the firms’s returns.

Ironically, returns had been the sub-ject of debate within the firm’s circle of senior managers in recent months. A num-ber of issues had been raised about the hur-dle rate used by the company in evaluating performance, and in setting the annual capital budget. Since the company was ex-pected to invest nearly $2 billion in capital

Wall Street Daily News, January 9, 1996 projects in 1996, gaining closure and consensus on these issues had become an important priority for Margaret Weston. Now, Yossarian’s letter lent urgency to the discussion. In the short sun, she needed to respond to Yossarian. In the long run, she needed to assess the competing viewpoints, and recommend new policies as necessary. What should be the hurdle rated for Teletech’s two business segments? Was the Products and Systems segment really paying its way?

The Company

Teletech Corporation, headquartered in Dallas, Texas, defined itself as a “provider of integrated information movement and management,” The firm had two main business segments: Telecommunications Services and Products and Systems, which manufactured computing and

telecommunications equipment. In 1995, Telecommunications Services had earned a return on capital(ROC) of 9.8 percent; Products and Systems had earned 12.0 percent. The firm’s current book value of net assets was $16 billion, consisting of $11.4 billion allocated to Telecommunications Services, and $4.6 billion allocated to Products and Systems. An internal analysis suggested that Telecommunications Services accounted for 75 percent of the market value of Teletech, while Products and Systems accounted for 25 percent. The current capital expenditures proposed by Telecommunications Services offered prospective internal rates of return averaging of 9.8 percent; the IRR for prospective Products and Systems projects averaged 12.0 percent. Overall, it appeared that the firm’s prospective return on capital would be 10.35 percent. Top management applied a hurdle rate of 10.41 percent to all capital projects, and in evaluating the performance of business units.

Over the past 12 months, the firm’s shares had not kept pace with the overall stock market indices, or with industry indexes for telephone, equipment, or computer stocks. See Figure 1.

Securities analysts had remarked on the firm’s lackluster earnings growth, pointing especially to increasing competition in
telecommunications, as well as disappointing performance in the...
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