Weighted Average Cost of Capital and Yeats

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Extra Credit Assignment:
Yeats Valves and Controls Inc.

Completed as a Group with the Following Individuals:
(in alphabetical order by last name)

Adetunji Adeniyi
Tung F. Cheng
Gregory Chiu
Rashmin Patel
WenHao Zhang

Course Title: Accounting and Finance
Course No./Section: MG6093
Instructor: Frank X. Apicella
November 28, 2012

Yeats Valves Question

The following are questions which should focus the groups on important aspects of the Yeats Valves case. Note the actual case name is Yeats Valves and Controls, Inc. The case number is UV0094. There is also a spreadsheet - that number is UV0184.

As mentioned  - the corresponding case is TSE International Corp. - case # UV0114.

1. What is the situation that this company faces?

Yeats Valves and Controls, Inc. is currently considering a merger with TSE International Corporation. The founder, who is Chair and CEO, W.B. “Bill” Yeats, is about to reach his 62nd birthday and does not have a succession plan. He is concerned with the future of his company as none of the other executives can take his place because they are all specialists. Bill Yeats believes that TSE can provide stability to Yeats as he is reaching retirement, and TSE is a larger company with better marketing and global distribution channels. However, he is concerned with the fit of the two companies even though he thinks TSE is a better partnership than other alternatives.

2. What are the strengths and weaknesses of Yeats and its counterparty, TSE?

Unlike TSE, which is more global-oriented with indirect distribution channels, Yeats has a stronger national and direct distribution channel. TSE has a larger mass market production system (high volume) while Yeats has a more customized market production (lower volume). In addition, Yeats has a strong R&D, having many patents for multiple applications, particularly with its latest development of the Widening Gyre Program that has a high-profile government contract. This might not be reflected in the stock of the company as a growth opportunity.

3. Why should Yeats and TSE want to negotiate a merger deal?

Yeats is considering this merger deal because it would offer a succession plan for the company as TSE is a much larger company that can offer Yeats financial stability without having Yeats to identify new capital (debt and equity) on its own to fund the Widening Gyre Program (an advanced hydraulic-controls system). Yeats needs additional funding in order to continue the R&D of the Widening Gyre Program. Also, TSE has the expertise of mass manufacturing that Yeats need for widening its reach in commercialized distribution. In order to maintain a competitive edge, Yeats need both the finance and manufacturing capabilities of TSE as other competitors in the same industry have been consolidating more and more.

However, Bill Yeats is concerned about losing voting control from a merger with TSE. He also wants to ensure that Yeats employees are kept after the merger and its stockholders gain value from the merger. He wants TSE to continue the R&D and commercialization of the Widening Gyre Program; and for him to stay on as head of Yeats until TSE can fully operate Yeats by offering him a reasonable bonus plan.

Though Bill Yeats could turn to another company, Rockheed Marlin, a large defense contractor, or other companies, he prefers TSE because he is familiar with TSE and they have complementary needs. Bill Yeats also ruled out a joint venture with TSE because he felt it was an inferior alternative as it will have the same integration issues. To reduce tax obligations, Yeats and TSE want to complete the merger in a stock-swap deal.

4. Use valuation analysis to determine the valuation of Yeats. What are the key value drivers? As mentioned above - Note the Harvard web site has a student...
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