The Ipo of Cfao

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The IPO of CFAO – MCT 4 – 31 October, 2012

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Corporate Finance
Prof. Ken L. Bechmann, Ph.D.

The IPO of CFAO

ESSEC & MANNHEIM EMBA, Weekend 2013

MCT 4
Johannes Drexler Anton Golubev Fabricio Granados Curzio Scheurer Nataliya Shevchenko Matthias Wörner

Mannheim Business School 31st October, 2012

The IPO of CFAO – MCT 4 – 31 October, 2012

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1. Discuss the performance and financial strategy (capital structure) of CFAO in the 20062008 period. The management of CFAO, or better to say of PPR as the main vendor, has been significantly focusing on improving the financial performance of CFAO to make it an attractive candidate for the stock market as well as drawing down capital by paying a high dividend to PPR. Between 2006 and 2008 the overall performance of CFAO was significantly better in comparison to the previous years. This improvement can be displayed at the first sight by the growth of sales with 13.6% p.a. in comparison to a ten-year average of 10% p.a.. The ratio cost of sales/total sales improved slightly (from 77.2% in 2006 to 76.75% in 2008). The management of CFAO was able to improve the gross margin by 31.75% within three years. The correlation between the increased sales volume and increased costs of the staff was not very significant which resulted in lower growth of the employees’ costs and higher revenues per employee. All these methods led to an increase of net income by 55 % within two years. We do not know the final goal of this action but assume that CFAO improved the performance dramatically to have an interesting story for the stock market for an IPO of CFAO. Besides the very sound development of the financial performance of CFAO the financial strategy changed considerably. The relatively low debt ratios in 2006 (20.5%) and 2007 (17.2%) were struck by the high dividend granted to the holding company PPR for 2007 (in 2008). This payout led to an increase of CFAO's debt ratio to 37.7%1. Nevertheless the debt ratio more than doubled, it was still low compared to other companies in the industry (e.g. Imperial Holdings, 67%). The dividend was one way for PPR to withdraw cash from CFAO before placing its subsidiary on the stock market (which would result in having less influence on the CFAO´s dividend policy). Concluding one can say that the "bride" CFAO has been made attractive for the stock market. The most important sales and equity figures (besides debt) have been improved and a fraction of CFAO’s equity has been distributed to the holding company PPR before placing CFAO on the market. 1

See Question 2 for the calculation on the debt ratio.

The IPO of CFAO – MCT 4 – 31 October, 2012

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2. Did the large dividend (for 2007) paid by CFAO in 2008, financed by debt, change the cost of capital of the CFAO? If so, how? Why? The large dividend in 2007, financed by debt, led to a significant increase of the debt ratio of CFAO from 17.2 % in the year 2007 to 37.7 % in the year 2008. As the after-tax cost of debt of 6% is significantly lower than CFAO´s cost of equity of 10.86 % (see analyst reports), this change in the capital structure decreased the weighted average cost of capital (WACC) of CFAO, as the calculations below show: Debt Ratio2007 = 128/(493+1242+128)=17.2%; Equity Ratio2007 = 82.8% Debt Ratio2008 = 345/(431+139+345)=37.7%; Equity Ratio2008 = 62.3% WACC2007 = 82.8 * 10.86% + 17.2% * 6% = 10.02% WACC2008 = 62.3% * 10.86% + 37.7% * 6% = 9.02% As we can see from above WACC calculations, the CFAO´s cost of capital could be decreased by ca. 100 basis points, which is quite substantial. 3. What benefits could the IPO have for CFAO? By leaving PPR and going public, CFAO gained independence and therefore took profit of various financial and strategic benefits. From the financial point of view, CFAO acquired a broader access to the capital market. Being with PPR, CFAO had to rely on the parent company as the only source of substantial funding and in return...
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