November 19th, 2009
Active Investor Strategy2
Effects of $3 Billion in New Debt for Dividend or Stock Repurchase2
a. Outstanding Shares2
b. Book Value of Equity2
c. Price per Share3
d. Earnings per Share3
e. Debt Interest Coverage Rations and Financial Flexibility3
f. Outstanding Shares3
Wrigley’s Current Weighted Average Cost of Capital (WACC)3 Debt Proceeds to Pay a Dividend or Repurchase Shares4
Should Wrigley’s directors undertake the recapitalization?5 Appendices6
This report seeks to answer the following five questions about William Wrigley Jr.: 1. In the abstract, what is Blanka Dobrynin hoping to accomplish through her active-investor strategy? 2. What will be the effects of issuing $3 billion of new debt and using the proceeds either to pay a dividend or to repurchase shares on: a. Wrigley’s outstanding shares?
b. Wrigley’s book value of equity?
c. The price per share of Wrigley stock?
d. Earnings per share?
e. Debt interest coverage ratios and financial flexibility? f. Voting control by the Wrigley family?
3. What is Wrigley’s current (pre-re-capitalization) weighted-average cost of capital (WACC)? 4. What would you expect to happen to Wrigley’s WACC if it issued $3 billion in debt and used the proceeds to pay a dividend or to repurchase shares? 5. Should Blanka Dobrynin try to convince Wrigley’s directors to undertake the recapitalization?
The analysis identifies both risks and benefits associated with undertaking the recapitalization for Wrigley. Given the reduction WACC, Wrigley should undertake the recapitalization. The conclusions reached in the following will illustrate the effects that the recapitalization will have on both equity in terms of outstanding shares, voting powers, and earnings per share. It will also illustrate the effect of WACC in a B/BB environment. Active Investor Strategy
Blanka Dobrynin is a managing partner of the Aurora Borealis Company. The company utilizes a strategy called “Active Investor” in which the firm identifies companies that could benefit from restructuring and then invests heavily in the company’s stock. Aurora Borealis must convince management and directors that restructuring will benefit the company and its stock holders. Wrigley has virtually no debt. If Wrigley were to change the capital structure of the company by increasing its debt/equity ratio, significant financial value would be created from the debt tax shelter. This strategy created $156 million to be invested for shareholder gain. The value of this extra cash flow is shown as the present value of a perpetuity at $1.2 billion. This is a significant amount of value that is created due to the leveraging of the firm. The market value of a levered firm versus an unlevered firm is as follows:
Effects of $3 Billion in New Debt for Dividend or Stock Repurchase a. Outstanding Shares
Issuing 3 billion dollars of new debt to buy back shares will reduce the number of outstanding shares, placing those shares in the company treasury as treasury stock. Paying a dividend with this borrowed money will not affect the number of shares outstanding. b. Book Value of Equity
The net asset value or book value of a company is calculated by total assets minus intangible assets (patents, goodwill) and liabilities. So as the company issues more debt the book value is not changed since both sides of the balance sheet are increased by $3 Billion. The book value of the company should not be affected by a dividend payout. c. Price per Share
The price of a share will decrease by the amount of the dividend paid per share. Repurchasing shares of the company stock will not have an effect...