Rhone-Poulenc Rorer, Inc Case-Study

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Summary
1.
Almost every aspect of the complexity of the merger can be explained through Rhône-Poulenc’s financial constraints. RP’s motives to acquire Rorer were to create crucial capital for its own strategic entry into pharmaceuticals. RP could not buy Rorer either in cash or shares due to the following factors: First, RP had limited ability to pay with borrowed cash. The company was more levered than other firms in the industry. Rhône-Poulenc didn’t want to borrow all the cash because it would have affected in a negative way to its balance sheet despite the fact that it borrowed for the cash portion of the deal. Second, Rhône-Poulenc couldn’t pay with internally generated cash because, during the announcement time, RP was a net cash user in connection with its great capital spending requirements and the recession felling on chemicals markets. Third, RP could not pay with debt securities. It is logical that if the company was too highly levered to borrow and pay in cash, it was too highly levered to swap debt securities for shares. Fourth, Rhône-Poulenc could not pay with RP common shares or with cash raised from selling equity. A deal based on shares would not have been approved by old shareholders because the deal would have diluted the value of individual shares and it would have not been profitable because the RP’s management believed the company’s share price was undervalued. Rhône-Poulenc could not offer standard common stock because it didn’t have any, so it had to offer only nonvoting certificate of investment as a state-owned company as it was. 2.

In case of Rhône-Poulenc Rorer, Inc, the shareholders of Rorer received a CVR that enabled them to receive additional gains from the possible shortfall of the future stock price and to persuade the Rorer shareholders to continue as the minority equity investors in the Rhône-Poulenc Rorer, Inc. Rhône-Poulenc could not pay with RP common shares or with cash raised from selling equity. A deal based on shares would not have been approved by old shareholders because the deal would have diluted the value of individual shares and it would have not been profitable because the RP’s management believed the company’s share price was undervalued. Rhône-Poulenc could not offer standard common stock because it didn’t have any, so it had to offer only nonvoting certificate of investment as a state-owned company as it was. 3.

The assumption is that RP is not going to use its right to extend the maturity of the CVRs, and they are thus expiring in July 31, 1993. We have used the binomial tree to value the CVRs as a put option. The value of a CVR is thus $5.54, and the aggregate value is $231.64 million. Secondly, we have calculated the value of the CVRs in August 1991, assuming this is the date when the case was written. In addition, I am still assuming that RP isn’t going to extend the maturity. I’ve used almost the same method as in the previous calculation and the value of a CVR is $2.78, and the aggregate value is thus $116.34 million. 4.

The investor can see the offering quite attractive. This is due to the fact that they now have limited their downside risks with the put option. This means the minority have an effective hedge against the possibility of failure of the upcoming merger. Rhône-Poulenc managed to entice all the shareholders of the acquired Rorer with its somewhat complicated three-stage transaction. The initial tender offer and giving the rights to control RP’s HPB was attractive enough for Rorer to accept the deal. The Contingent Value Rights gave the minority shareholders the rights they thought were valuable enough to close the deal. Rorer believed that the whole package was indeed worth of $36.50 per share. Rorer benefited from the announcement of this deal and gained about $632 million in new value. However, RP’s non-voting common shares decreased 4.4 percent, or $175 million, in value.The fact is, all in all, that RP has a huge liability due to the CVRs. In...
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