The Loewen Group Case
Service Corporation International (SCI) has made an offer to purchase Loewen Group. The offer consists of paying $43 per share in a tax-free transaction. The total number of common shares at year end in 1995 (in thousand) are 48,168. The cost of purchasing Loewen would be $43 x 48,168 (in thousand) = $2,071,224,000. The total amount of equity and debt for Loewen Group is approximately $3B. This includes the total non-current liabilities at approximately $1.15B.
What is the Loewen Group really worth? This will be calculated by the following formula:
Value= Income/ Risk-Growth
The operating expenses of Loewen are approximately $117,000*.
Given that shareholders expect a high return on equity, it would be safe to assume there is a high level of risk with this deal at 20%.
Also, what growth prospects does Lowen have? Based on GDP averages, and the fact that death rates are increasing, a 3% growth rate is reasonable.
Therefore, we can calculate:
Value approximately $500,000*
At this point the return on investment for SCI would be about 5.2%. Although this return is not horrible, SCI shareholders are accustomed to a return on equity of approximately 10%.
The share price of $43 peer share divided by EPS for SCI of $1.70 results in a P/E ratio of 25. Therefore, the share price for SCI would be X/1.70 = 25, which results in a share price of $42.5. The current share price of SCI is at $33.17 therefore the investment would increase shareholder value by $9.93 per share.
Because the company is earning $117,000* and it is costing $3B* to purchase, due to the high risk nature of the deal at 20%, Loewen would be ridiculous to NOT take the deal being offered by SCI.
Strategic Management 8th Edition, A casebook IVEY by Crossan et. al
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