SATELLITE RADIO (B) INTRODUCTION As 2005 unfolded, the good times seemed to be just around the comer For the satellite radio business. XM Radio ended 2005 with almost 6 million subscribers, and Sirius with a shade over 3.3 million, both sur passing forecasts made a year earlier. Morcover, with churn rates only 1.5% a month, the lowest for any sajor subscription business, both companies could segue that their users clearly placed a high value on the product offering, Mel Karmazin, the CEO of ius, argued this was because, “Our programming is so compelling, so strong, and so sticky:"! Forecasts called for the two companies to have a combined sub- scriber base of 44 million by 2010, divided more or less evenly between the two companies. For 2006, the subscriber base was expected to reach 15 million, GROWTH RATES SLOW Late 2005 proved to be the high point of expectations for satellite radio. As 2006 progressed, the growth rate started to decelerate. The two companies ended the year with 14 million subscribers, one million less than forecasted (Sirius had 6 million and XM Rad 8 million subscribers). Moreover both comp: continued to lose money; Sirius Jost $513 million in 2006 and XM Radio lost $719 million. As inves- tors fretted about whether the companies. would ever gain enough subscribers to cover their fixed costs, the stock prices of both fell sharply. Despite subscriber growth throughout 2007—XM ended the year with 9 million subscribers and Sirius with 8.3 million—losses continued to mount. Sirius lost $327 million in 2007 and XM. $682 million. The 44 million subscribers forecasted for 2010 now seemed out ofreach. One analyst forecasted 32 million subscribers for the two companies by 2011. ‘Various reasons were offered to explain the slow ing growth rate. One was competition from other for- ‘mats for listening to music. By 2007, some 57 million ‘Ameticans were listening to some form of Web radio every week and analysts worried thatin the nearfutuee, Web radio might be streamed to cars using WiMax technology. Of more immediate concern, increasingly people were listening to music using iPods, more than 200 million of which had been sold by 2007. Many cars were now ftted with racks for Pods (about 40% ‘of cars sold in 2007 came with sound systems that were compatible with iPods). Another problem was the core demogeaphic for satelite radio seemed to be middle aged people. Many younger people would rather listen to their ‘own playlists downloaded from iTunes and played on iPods. While satellite radio offered music pro- gramming, people with iPods preferred to program their own music. A study by Forrester Research This case was prepared by Charles W. Hill, School of Busnes, Universiy of Washington. Reprinted by permission. crea“104 estimated that only about 13% of the population actually wanted satellite radio and that the percent- aye would shrink significantly if the satellite radio companies started to run advertising. Compounding matters was the auto business fac- inga sharp downturn. Because auto dealers were the ‘major distribution channel for satellite radio, as car sales shrank so did the number of new subscriber additions. What was a slowdown in sales became a majorerisisin 2008, as tight creditin the United States led to a sharp contraction in auto sales. Auto sales for 2008 were expected to total only 13.5 million, down from 16.1 million in 2007, Forecasts for 2009 suggested sales of 13.1 million. MERGER PROPOSAL In February 2007, the Sirius and XM Radio nounced plans to merge. Under the merger agree- ment, Sirius offered 4.6 of its shares for each XM share, leaving each side with 50% of the new venture. Sirius closed on the day before the announcement at $3.70 a share while XM was at $13.98. The merger valued the combined companies at $13 billion. The stock price of both companies dropped following the merger announcement, knocking $2 billion off the market capitalization of the combined entity. ‘The main benefit claimed for the merger was cost reduction, particularly marketing and programming costs. About 34% of XM's revenue in 2006 went to programming and marketing expenses, while 47% of rius’ revenue was eaten up by these costs, many of which were fixed. The costly war for content between the two companies, exemplified by Sirius $50 million ol with Howard Stern, would also come to an end. One analyst estimated that the combined company could save up to $4 billion through cost reductions lover six years. ‘The merger would also enable the new company to offer a wider range of channels. Although dupli cate channels would be eliminated, no longer, for example, would the National Football League be exclusive to one provider and Major League Baseball to another. This could help with subscriber retention and growth, Implementation problems included making radio receivers that were compatible with both satelite systems (something that the companies had already ‘Business Level Casos: Domestic and Global been working on under a Federal Communications Commission mandate) and in the long, run, ratio nalizing the satelite system. From a practical point of view, many subscribers might balk at having to replace their radios with ones that can receive sig- nals from both satellites, which could stretch out the implementation over years. ‘The proposed merger faced two regulatory hurdles, ‘The Department of Justice had to agree to the merges, which created a: monopoly in satellite radio, and the Federal Communications Commission (FCC) also had to signoff. The FCC would have to reverse its mandate in 1995, when it allocated satellite radio spectrum, that “one (satellite radio) licensee will not be permitted to acquire control of the other remaining” one. Opposition to the merger quickly emerged from the National Association of Broadcasters (NAB), which represented conventional radio broadcaster, The NAB argued that a national satellite radio ‘monopoly could overwhelm local broadcasters. They claimed that the new company might win additional business in the biggest markets by offering them channels with local news, weather and information. In the end, the key issues centered on the defi- nition of the “relevant market” for Sirius and XM Radio. If the relevant market was defined narrowly as the market for satellite radio, then the merger seemed doomed on antitrust grounds. Alternatively, the satellite radio companies argued that the relevant market was all broadcast radio, of which satellite radio was just a small segment. The satellite compa- nies pointed out that 240 million people listened to conventional radio, and that satellite radio in total comprised less than $% of the combined satellite and terrestrial broadcast market. They also argued that their service was competing with Internet radio and other ways of consuming music, such as the iPod. In March 2008, the Justice Department gave the ‘go-ahead to the merger, and the FCC followed with ‘green light in July 2008, Both government bodies agreed ona broad definition of the relevant market. However, as part ofthe price for allowing the merger to proceed, the FCC required that new company to offer more content a la carte pricing schemes, with lower priced subscriptions schemes being offered for access to limited content, and higher priced schemes offered for access to premium content. This raised the possibility thar many subscribers might apr for a less expensive monthly subscription rate, which could materially impact the revenues of the new compaiCase 13 Satolite Racio (8) ‘The FCC also mandated that there would be no increase in the price of the base subscription plan, which stood at $12.95 a month, for three years. IMMEDIATE AFTERMATH ‘The merger was consummated on July 29, 2008. The new company was called Sirius XM. Mel Karmazin, the CEO of Sirius, became the CEO of the combined entity. For the time being, XM would funetion as a wholly owned subsidiary of Sirius. In early Septem ber, Sicius XM estimated that the ner synergies from the merger would total $425 million, $25 million more than originally thought, and thar the company would generate positive cash flow in 2009. Sirius forecasted that it would end 2008 with 19.5 million subscribers and 2009 with 21.5 million. However, the continuing contraction in the United States, mobile industry, a result of the 2008 financial raised questions about how attainable ally was. Some 80% of all new subscriptions came though sales at auto dealers in 2007. References & Readings 1. Anonymous, “Howard's Way," The Economist, Janvary 14,2006, 65 2. Anonymous, “They Cannot De Sirius,” The Economist, Febnuaty 24,2007, 77 3. .C.Anselmo and M.A. Taverna, “Urge o Meng," Aviation Wook and Space Technology, February 26, 2007, 92. 4. Aegus Research, Sins XM Radio Ii, Sepeinbee 15,2008, 5. C.Holahan and A, Hesseldabl, “Sirius and XM Get the Justice Go-Ahead,” Business Weok Online, March 26, 208, crs lost some $4 billion between 2005 and 2007, and with no prospect of becoming, profit- able soon, Sirius XM now faces substantial fanding, issues. The company has $1.05 billion of debe that will become due in 2009. Its cash on hand, which stood at $42 million in September 2008, could fall substantially in 2009 asit pays down debr and spends $100 million on a new satelite that is planned. Mel Karmazin has pledged to nor issue any new equity to pay down debt, s0 a significant portion of the debt coming due in 2009 will have to be refinanced—not aan easy prospect given the credit crunch in United States financial markets By October 2008, the stock of the new company was trading at under $0.40. share, down froma high $3.40. The marker capitalization of the new com: pany was down to $1.2 billion. Ifthe stock trades at imder $1 for 30 consecutive days, it faces possible delisting from the NASDAQ stock exchange, which would have adverse consequences on its ability to raise capital. To avoid this possibility, Sirius XM was looking at the potential for a reverse 10 for 1 stock spl 6. Olga Kharif, “The FCC Approves the XM-Sirius Menges” Business Week Online, july 28, 2008, 7. Olga Kharif,“Sivius XM Is in a Serious Bind” Business Week Online September 18, 2008. 8. T. Lowey and P. Lehman, “XM and Sirius: What a ‘Merger Won't Fis," Business Week, March 5, 2007, 31.and lower, and the increasing technology of HDTV, he demand for HD products is also increasing. With HDTV, users are offered a much bere picture qual- ity than standard television, with greater on-scicen arigy and smoother motion, sicher and more natural colors, and surround sound. HD Tivo Recently, TiVo issued the TiVo Seres3 that will allow customers ¢o record HD television shows and digi fal cable. As people experience HDIY, 1iVo service will be increasingly appealing. Once again, TiVo has ‘eszablished the technological standards inthe envi fonment. The TiVo Seris3 HID version allows con ‘sumers ro do many additional things and delivers both the audio and visual ix HD. “Tivo realizes that great quality videos need to be supported by great quality audio; chus, T'Vo puc a lorofeffor into audio development and received the certification of being the frst digital media recorder to mect the performance standard in HDTV. THX is wvell known for having developed the highest sean Gard of audio, mainly the surround systems, in the entertainment a8 well as the media industry. TiVo SERIES3 The now TiVo Series3, which is being sold for 5799, has the ability @ record two HD programs simultaneously while playing back 2 third previ ously recorded one. Iv also has two signal inputs land accepts cable TV and overthe-aie signals. It replaces the existing as well as the 30-second com- mercial skip. The neve HD Tivo is different ecanse there is no lifetime membership for tae HD TiVo References bepaheesvocony epulen wikipedia opto epuln wikis oglok High-definition televise Iepulegotronconipelpvineoezn Faults comcem/Tivo,- Corns reach DVI eal 2100-1041_3.5616961 ht Iepinewscom com/TVo and =i TV teaend teams! 2100-10383 6060475 hank ple technlonyreincom puter ftcompanycon/magazie/ vo hel Busnes Lovo! Cates: Domestic and Gots! compare to older DVR products. his shift of the To eevenue model TVe want 3 atthe {ubserpion based revene team Despite tat he eapabityof To bing abe to record and playback in HD, there are still many con- ‘raion or people before buying the Tie. The Sonate ofthe HD TiNo is he pce tag, wich i Grvy expensive for tos people, eecy when thee are DVRS offered for fre by cable companies. HD TiVo Enemies [Now that the HD trend is locking the entertainment industry, Tie competitors are also offering HD DVRs on their own and nor usta DVR. Comcast allows is subscibers co rent their DVR. bones for $13.94 per month a they do not sll thie DVR boxes to their customers. With the HD DVR boxes manulactured by Motorola. and Scientific Atlanta, users are able 0 navigate their own prefer: cnees just like uring a TiVo, excepe that TiVo may have better and more features built ino the TiVo boxes. Also, with the Comcast DVR boxes, users will be able to watch the variety of cable channels offered by Comesst with an additional monthly subscription fee to cable channels DirecTV, once a friend but may soon be 2 foe, allows subscribers to add an addtional DVR s Scripton service for $4.99 monthly on top ofthe cho sen monthly subseriprion service package ro DirecTV table channels, which ranges from $29.99 0 $65.99. Tike Comeast, DirecTV does no allow users to keep their DVR boxes; if 3 user isin need of an HD DVR box the user will need to pay an upfront cost of $299 with a $100 rebate. As for the basic DVR, DirecTV charges a $99.99 upfront cost hupulinnovate bogspot-com/2006/09/mike-ramsay~ co-founder of vee hupstwww acmgueuesorp/moduls.phpname pashowpazeni=S3pagen7 epfncw accion connate hy bepomoshav com 2006/08 -isoy-101-how-o ‘pile oe Ded iuhewwerpeeicionscomieobdO30807 hm Iapdicn:tvccommnciey combivo-Wshveheend php? thread 11843 HANSON (A) INTRODUCIION Hanson PLC is one of the en biggest companies in Britain, and is U.S. arm, Hanson Industries, i one of America’s sixty largest industrial concerns, A con fomerate with more than 150 differen businesses Grits porolio, Hanson PLC has grown primarily by maing acquisitions, By the end of 1989, the Company had secorded twenty-six years of winter: taped proft growth, cumulating in 1989 operating income of $1.61 billion on revenues of $11.3 billion find assets of $12.03 billion. The company’s share: folders have been major beneficiaries ofthis growth. Bexween 1974 and 1989, the price of the company’s thas on the London Stock Exchange increased tighiyfold, compared with an average increase of {Ekeenfold for all companies quoted on the London Stock Exchange during this period.' Along the wan, Hanson has gained a reputation for being one of the most successful rakeover machines in the world Its acquisitions during the 1980s included rhree ‘American conglomerates (U.S. Industries, SCM Corporation, and Kidde) and three major British Companies (London Brick, the Imperial Group. and ‘Consolidated Gold Fields) So high s Hanson's profile ‘hat Oliver Stone, in his film Wall Street, reporcedls teed Sir Gordon Whit, head of Hanson Industries, wethe model forthe British corporate raider (the one ‘who outmaneuvered the evil Gordon Gekko) Despite this impressive track record, as Hanson encers the 1990s analysts increasingly wonder about fhe strategy of the company. There is speculation “Conyighr © 2007 by Chale Seon ater an a a a seed or he at ee antl ren fhe cepa daconn ce 2 sho sh company may be on he vere of braking Ty Sa rang th uo Srl. he weet companys ounders facing thisspes- TOT ono en who bat and sl rn che con- ‘sre Lord Hanson and Sc Gordon White, ¢ eee sis and both ave promised 0 Com aan whe hey ae sre As one ier ae eee yea sated wil ish i of" Pe rc te arson i 050 Bg tha eet ake some spectaco deals ro contin Nee ow rots Acoring to many, cade sao Se Bnnes Shel sey gure Michael ia ae ly are wou many ebvious com ree er aman co buy Tisven Hanson wil Ter at yoorer and poorer oof manag de On the ther band, ate ead of 1989 Fianethad Sis bition nck ont blancs shee. Tins long wih iio nero Hed eich compay epee borrowing caps ¥en ny suas hati Hanson and White eel wih they eral undrae an xguston thar woulda the RJR-Nabico deal ia i. ‘Siler commentators qoasion the Jonge sii of the compa. Some a tha Hanson uae nre an an se epee that he Igo vet compas manent he Sa ered to one veenent anke, T' ser el tha Hagen na compari recred high prices and margins. Ilanson thought that thie retar could be significant improved. The Takeover Battle The planned merge beeen Inperal and United Biscuus PLC (UB) announced on December 2, 1985, gave se wo conddeable concern among Inperals Sirady dgruted shareholders. Under the tes af the propose eng UB, atoves contig fuse 21 percent of net asses, would end wp with 22 percent ners in he elarged group. avn was hat perchance would expe: tence sgifeant earings dluson. tn adon i Stas roped that he corporate managers ofthe Enlarged group would primarily come form UB pre somal Ths factors romped reverse alcove by Ui the och large peril group. See Exh 8 Hanson's interes wat sparked by this cont. vec: Hanon corporate taf had been tacking impel for sme tne, 40 when the forsale sign was raed oer Imperial, Hanson was able fo move uch. On December & 1985, Hanson made a $So-pence pr share offer fr Imperial, wang the group a £19 blion, This offer was reece out of Fd by imperats managemen The not major devlopeent came on Febracy 12, 1986 when he Bel secretary of este of ade tra indasty refered the proposed IperaVUB tncge to the Monopolies nd Mergers Crunison focconsieation Bati's Monopole and Mergers CCommieonbas the shorn to probe ny eraer shih cea oops Te eer Ws de to the recognition that an impera/UB group vou Comnmand mor than 40 percent the Bets stack food mathe: Domest an Gita! (On February 17, Hanson took advantage of the tuncertainey created by the referral ro unveil a revised btfer 24 percent higher than is original offer, vale ing Imperial at £2.35 billion. On the same das, UB announced a bid of £25 billion for Imperial and indicated that, ifthe offer was successful, Imperal's snack-food businesses would be sold thus eliminating the need fora Monopolies and Mergers Commission investigation. Imperial’ board duly cosommended the UB oiler w sharcholfers for accepesnec. ‘Many of Imperial’ shareholders, however, were jn no mood to accept Imperial’: recommendation Under Briishystocle marker regulations, once the Imperial board accepted UB’ offer, Imperal’s share- holders had tivo months in which ro indicate their acceptance or rejection aft I ce offer was rejected, then the shareholders were free to consider the hos tile bid feom Hanson, What followed weas an increas ingly acrimonious wae of words between Hanson and Imperial, Hanson charged Imperial with mismanage- ment. Imperial responded by trving te depie Hanson asaan asser stripper with no ceal interes generating fncemal growth from she companies it owned. In the ‘wonds of one Imperial executive duving this period, Lond Hanson “buys and sells companies well but he manages them jolly badly: He bays, squeezes and goes ‘on to the next one. The only way to grow is by Bigger land bigger acquisitions. Like all great conglomerate builders ofthe pas, he's over the hill Iimperial’s management failed 10 win the war ‘of words. By April 17, UB had secured seceptances for only 34 petcent of Imperial’s shares, including 149 percent held by UB associates. The UB olfer lapsed, leaving the way clear for Hanson. On ‘rl I$ Hanson secured acceprances for more than 50 percent of Imperial’ shares, and its offer went ‘unconditional, At £2.5 billion, the takeover asthe largest in British history; ic implied a priceearnings mull of 12.3 on Imperial's prospective earings. After the Acquisition Afier the acquisition Hanson moved quickly 0 realize potental from Imperial. OF the 300 staff at Imperial’ headquarters, 260 were lad off and most ofthe remainder were ene bacl tote operating level Jn Jaly Imperal's hotels and restaucants were sold to Trusthouse Fort for £190 million in cash, represent ing 2 pricelearnings multiple of 24 on prospective carings aud aanounting to 1-7 times book valve. crore Exhibit @ Hanson PLC—Financial Deta Hanon ia) cats ( Year co ret Cae Se eee (ental Dept Int. Exp reset $11,302 $1,609 142% $2161 $700 $599 S1718" 226% 1313 8% rose 12807881 175% 728 yor ings) 1290 «12% «522 or 5 37a roe 90 303 103% a ssi .2228° 07 93% ro 1982 NA NAMA yo 549 NANA NA eons 218485 N88 82M NSB 172 4931217” 228% 999 BSH a a m2 85H 272% 5 Ns 208" 57% 1A SH ee ee NA WR ONAONR 728% NANA NANA 824.0% cor oy Seat ee oes 960° “SASH $12,098 $5278 23 SITE ross 6527 1413 4.16525 18200 s9er 5025 8206 9422 24 «10471 ges 2509 7977 S572 229577 toes 669 2908 1277-23 402k weet tt 1775 9251982688 Danae erat repo pero 138 ce er eee elo 5% $8028 $1,589 "$10.88 75.1% 476% 94% 3592 3,707 7878 456% 335% 93% 2837 28n GISI 481% 975% 7% 28020885282 S40% 29.1% 909 1378-2563 95.2% 277% 20% © 981-5510 63.70 26.7% es eparad inthe 985 Aart Repo oe 108 ohare Hom the iting “Zppleson sf imamber 2 686, comerson to US dais w yarand exter ts. "Before pie i 1989, 1298 1958. Sour Sannd Poors, Stans 8 eas NYSE Stok Ros. ‘Sind oars whan ofthe MeGeetl Compaen re “That sale was followed in September 1986 by the sale of the Courage Brewing operations, along with ‘2 wine and spirits wholesaler and an “officense’ hain (liquor stores) co Elders IXL, an Australian brewing company; for £14 billion in cash. The price! earnings multiple for that deal amounted (0 ‘0 £7 No. Se. 2,106. Resremay persion of 17.5 times prospective earings and represented a pre- ‘ivan of £150 milion over book value. Ie was quickly followed by the sale of Impsal’s Golden Wonder snack- food business to Dalgery PLC, a British food concern, for £87 millon in cash, presenting, a priceearnings smulkpl of 13.5 over prospective earings.As a result of these moves, by the autumn of 1986 Hanson had raised £1.7 billion from the sale of Imperial’ businesses, Effectively, Hanson recouped 66 percent ofthe total cost ofits acquisition by sell ing companies chat contributed slightly more than 45 percent of Imperial’s nee prof forecasted forthe year to October 1986. The net cost of Imperial on this basis had fallen co £850 millon, with a conse- quent decine in the pricelearaings muleiple om pro- spective earnings from 12.3 10 7.6. This was followed in 1988 by the sale of Imperial’ food businesses for £534 million, slong ‘with the sale of various othe smaller faerests for £56 milion. By the end of 1988, therefore, Hanson hhad raised £2.26 billion from the sale of Imperials assets. [still retained Imperial Tobacco, by far the largest busines in Imperial’ portfolio, which it had in effec gained for a net cost of £240 milion—thie for a business that in 1988 generated £150 rullion in operating poke LATER DEVELOPMENTS Following the SCM and Imperial acquisitions in 1987 Hanson acquired Kidde, a 108-company US conglomerate, for $1.7 billion, Kidde seemed set for the "Hanson treatment." Irs headquarters was closed ‘within three months of the takcower, and a series of disposals was arranged. These were followed in 1988 by continuing disposals of operations acquired in the Imperial and Kidde acquisitions. in total, they amounted to $1.5 billion. Tn mid 1989 Hanson embarked om is higgest takeover veg the £3.61 billion ($4.8 billion) acqui- sicion of Consolidated Gold Field PLC (CGP). In addition to being the second largest gold-mining ‘operation in the world, CGF also owns 2 large stone and gravel operation, ARC Led. with major hold- ings in Britain. CGF came to Hanson's attention Endnotes 1, “The Conglomerate_as Anse Deslex™ Economist March 11,1989, 71-73 2, Qoste in bid 3. Quoted in John Bore and Mask Maremont, “Haston ‘The Dangers of Liing by Takeover Alone” Busnes Wee, August 15,1988, 62-65 from South African-contolled Minorco. “Hanson bought Minorco’s 29-9 percent minority stake in CGF and lauached is own takeover bid in July 1989, After 1, Hanson won con- twol of OGF in August. CGF also seemed set to be broken up. About lf of CGF value consists of minority stakes in poblily quoted mining comps ‘isin the United Srae, Sou Arica, and Aastra “These stakes range om 381049 percent enough hold the key ta contol in many ofthe companies. Ths, Hanson should beable to extract a premium price for them Initial estimates sgest shat Hanson Should be able to zaise $2.5 billion from the sale Of CGF minoris holdings. Indeed, hy February 1990 Hanson had reportedly recouped about one third ofthe purchase price of CGF theough disposals and was looking to sel addtional operons while 20d prices remained high The CCF deal i directo the Jane 1990 aq sition of Peabody Holdings Co. che largest US. coal produce, for total cost of $1.23 billion in cash. GF had 49 percent stake in Newent Mining Grp. the biggest U.S gold-mining concern In aca, Newmont owed $5 percent of Peabody. In Apa 1990 Hanson purchased the 45 percent af Peabody not owned by Newmont from three minority own: tre Then in June ie outid AMAX Corporation for Newmont’ sake in Peabody. “The attraction of Peabody to Hanson lis in ro factors: (1) the company owns lange depois oflow- sulfa coal, which increasingly tn demand because ‘of environmental concerns; (2) the company has seceney invested heavily upgrade is plane. As 3 tel, n the pat four yeas labor products hat fncreased 50 percent.” la addition, analysts spect late thatthe deals, by improving Newmoers fat cial poston (Newmont has used the cash to redoce its debe), may make i possible for Hanson t selloff its 49 percent stake in Newaront for a reasonable premium 4, Quote! ia Andrew Maron, “The Bucaner from Brin” Merger and’ Actions (Febuary 1987), siete 5, Quoted yee and Maremont, “Henin: The Dagger” Goedon Whi “How I Turmed 83,000 nto $10 Bilin Fortune, Novenber 7, 198, 80-89. 9. Quoted in tamper, Be Case 18 Hanson (A ca: “The material in is tion i honed om the fall ing sours: White, “How 1 Turned,” 80-89; Maton, “The Buceaner bom Briain 141-146, and Hope Lampert "Brcont onthe Prowl” Naw York Times Ml. zine, Noveser 2, 1957, 22-24, 35,38, 42 ‘White, "How!Tarsed” 81 so the Fro 36 ow Terns i eine on the Po” 24, “The material this stun i Bed onthe filo ing source: White, "How I Tame,” 80-89; Lampert, “Britons on te row” 22-24, 36 38,42; and Mark (Catach, Hanon Trt & Review of the Company and Tes Prospects Lando: Hoae Gove Lites, 1987) 3. The material in is secton i ued on the fellow sources Cosh, Heng Tray "The Congowerate ‘Antigue Desks?” 71-7); Bsrae an Matemonty "Hane Sot: The Danges" 62-64, and Gordon White Novhing lars Nore Than Bogus Barus” Wall Ser Jour Joly 20,1987, 18 + Quoted in Phi Whi, “Hove Tarn Sh White, “Nothing Hurs Move” |More of the et thi con & dawn from ovo Sure: Css, Hanon Tra and Lampert, “Dritne tn the Prowl 22-24, 36,3842 ‘Whine,"How Taree 84, “The mater in thi scton ie hated on she flowing source: Cheah, Hanson Tout and Lamper., "Baie tthe Pre 22-24, 36, 38,42. Resin, “UK Henson Test Aims foe Big Leaguer in Takcoverg” Wall Serect Journal, Febrary 25.1986, 90 |. Mark Maremont and Chuck Hawking, “Is Consgold Jot an Appetite or Hanson?” Basins Wer, Jay 10, 1889, 41-22 Joana Labi, “Hanson to oy Teabody Stake for $508 ‘illion” Wa Set forma, Febru 16,1999, 45, “Hanson PLE? Vale Line, aly 20,1990, 832.19 HANSON (B) INTRODUCTION During the 1970s and 1980s, Hanson PLC put together one of the most impressive growth stories of any industrial company in the world. Under the leadership of James Hanson and Gordon White, Hanson PLC made its name by acquiring poorly run conglomerate companies in both Britain and Amer- at prices that were often below their book value. in quick order Hanson would then change the senior ‘management of the acquired company, sell many of the company’s assets to other enterprises, typically for a considerable profit, and impose tight financial controls on what remained in order to maximize profitability and eash flow. The locus classicus was Hanson's 1986 acquisition of the Imperial Group, a diversified British tobacco, brewing, and food con- slomerate, where some £2.4 billion of the £25 billion Purchase price was recouped from asset leaving Hanson with the cash-gener business intaet. The results of this strategy. were nothing short of stunning, Between 1973 and 1991, Hanson put together twenty-nine years of uninter- rupted profit growth to build a diversified company sich evenues of £7.69 billion ($12.3 billion) and operating income of £1.33 billion ($2.13 billion). Hanson's stock price appreciation was also spec taculas, increasing more than a hundredifold between 1973 and 1991 However, 1991 may haye been the high-water mark of Hanson’s growth story. In 1990 Hanson took a 2.9 percent stake in the British chemical and pharmaceutical company, Imperial Chemical Industries (ICI). Many saw this as a prelude to yet another Hanson acquisition, but ICT was not about to be taken over, After a bitter public relations battle during which ICI characterized Hanson’s ‘management as having a short-term orientation and criticized them for failure to add value to the companies they acquired, Hanson sold its stake in May 1991. While the stake was sold for a profit of £45 million ($70 million), the public relations bat- ‘le damaged Hanson’s image. A year later Hanson was outbid for a British food company, RHM, by ‘a smaller conglomerate run by a former Hanson manager. These two failures raised questions as to whether Hanson's two founders, who were now both in their seventies, were still up to the rough game of hostile takeovers. To compound matters further, for the year ending in September 1993, with many of its cyclical businesses suffering from the effects of a recession in both Britain and America, Hanson reported a 33 percent decline in after-tax profits to $1.5 billion, the first such decline in its history. Reflecting these problems, Hanson's stock price peaked in early 1991 and remained flat over the next few years, while the equity markets in Britain and America boomed. Copyright © 2007 by Chasles W: Ls HillThis case was prepared by Chutes W. LH, the University of Washington, a8 the baie for clare discus mn rather shan 10 illustrate either effective oF ineffective handing ofan administrative sitaation. Reprinted by permission ‘of Chases WL Hil Alright reserved. For the most recent ania resst of the company discussed inthis eave, goto Irepinance yahoo.com, inp the company’s tock synbol, and deweload the latest company report fom ts homepage, 252Case 19 Havson (8) A NEW DIRECTION? In 1992 the leadership mantle at Hanson started to pass from the company’s charismatic founders, the now ennobled (Lord) Hanson and White, to Derek Bonham and David Clarke, who were then forty-eight and fifty, respectively. Bonham took over as CEO with primary responsibilities for Hanson's British-based operations, while Clarke succeeded ‘White as president of Hanson’s substantial American operation. Lord Hanson remained on in the chair- ‘man’s role, while White continued as the company’s senior person in charge of mergers and acquisitions. (White died in 1995.) Although both long-time Hanson employees, Bonham and Clarke clearly lacked the predatory thirst that had driven Hanson and White. Early in his tenure Bonham admitted that Hanson had become “too much of a mishmash” and stated that he hoped to correct that by focusing management’ attention nproving the performance of its core businesses in building materials, chemicals, tobacco, and nat- ural resources (primarily timber and coal). While this might require “bolt on acquisitions,” Bonham seemed to be signaling that the swashbuckling days of hostile acquisitions and quick asset disposals to pay down debt were over! Another signal of a shift in management's philosophy came in May 1994, when Hanson announced that it would lengthen the payback period required of new capital investments from three or four years to five or six years. The com- pany stated thac it had lengthened the required payback period to take advantage of low interest rates and continuing low inflation. However, many also saw the shift as an attempt to allay fears in the nancial community that Hanson’s management style was too focused on the short term. Moreover, the move scemed to be consistent with Bonham’s stated goal of increasing internal investments as a way of generating growth. The growth that Bon- ham was talking about, however, was a far ery from the 20 percent annual rate the leadership of Hanson and White. According, to Bonham, “The reality is that we are living in a low growth, low inflation climate. To suggest that you can continue to grow by 20 percent is out of line.”® Both Bonham and Clarke repeatedly stated that they saw Hanson growing at about twice the rate of = inflation during the 1990s, which suggested a growth rate of around 6 percent, given British and American inflation rates. Acquiring Quantum The first significant strategic move under Bonham ‘occurred on June 31, 1993, when Hanson announced that it had reached an agreement to purchase Quan- tum Chemical Corp., the largest U.S. producer of polyethylene plastics, in a stock swap that valued Quantum at $20 per share, or $720 million. The purchase price represented a premium of 60 percent over Quantum’s closing price of $12.50 on June 30. Hanson also stated that it would assume all of Quan- tum’s $2.5 billion in debe. The acquisition added to Hanson’s U.S. chemical operations, which included SCM Chemicals, the world’s third largest producer of titanium dioxide, Accordingto observers, the acquisition represented a strategic bet by Hanson that a proteacted cyclical downturn in the polyethylene business was nearing an end. At the peak of the last plastics cycle in 1988, Quantum earned $760 million. However, Quantum rad saddled itself with the $2.5 billion debr load in a 1989 restructuring, undertaken while plastics prices were a their previous cyclical peak. Massive debr ser- vice requirements and a slump in polyethylene prices nad left Quantum with a 1992 loss before accounting, charges of $118.4 million, or $3.98 per share. One immediate financial benefit of the acquisition was that Fanson was able to use its superior eredit rating, t0 refinance Quantunr’s debt (much of which was in the ‘orm of junk bonds with an average yield of more than 10 percent) at rates closer to Hanson's 5 percent botrowing costs. This move alone cut Quantum’s $240 million annual interest bill in halE In retrospect the Quantum acquisition turned out to be particularly well timed. Prices for low density polyethylene bottomed out in the summer of 1993 at §28 per gallon. By the end of 1994 they had risen to §33 per gallon.’ Quantum’s profits turned out to be highly leveraged t0 prices. As a result of this leverage and lower interest payments, Quantum’s chemical ‘operations earned almost $200 million in fiscal 1994, more than $300 million ahead of its 1992 results Quantum’s results helped Hanson to rebound from its poor showing in 1993. For 1994 ie reported a 32 percent tise in pretax profits and a record operat~ ing profit of £1.23 billion (81.92 billion).25a" 1993-1994 Disposals ‘Throughout 1993 and 1994, Hanson proceeded with a series of relatively minor asset disposals. The obj tives of these disposals were twofold: first, to focus the company on its core businesses and, second, to help pay down Hanson's enormous debt load, the legacy of its acquisitions ineluding Quantum. In fs- cal 1993 Hanson's long-term debt stood at £7.22 bil- lion ($11.5 billion), and its debe to equity ratio was 1.83 (see Exhibit 1). This debt load was beginning to trouble the financial community, who were starting to question the ability of Hanson to maintain its his torically high dividend. In a previous era Hanson had quickly paid down debt from acquisitions by raising cash through asset disposals, but there had been little movement in this direction since the late 1980s. Between January 1993 and August 1994, Han- son sold more than fifteen companies for a otal of £815 million ($1.3 billion). These disposals included azer home building operations in both the Seates and the United Kingdom; an office supply business; and Axelson, an oil industry equip- ‘ment group.” Spinning Off U.S. Industries ‘The next big strategic move occurred in February 1995, when Hanson announced that it would spin off thicty-four ofits smaller American-based compa- nies into a new entity called U.S. Industries under the leadership of David Clarke. Hanson would retain ownership over several of its larger U.S. oper= ations, including Quantum Chemical and Peabody Coal, The new company was to include such well known brand names as Jacuzzi whirlpools, Farber- ware cookware, Ames garden tools, Rexair vacuum wets, and Tommy Armour golf clubs. In 1994 the thirty-four companies had sales of $3 billion and ‘operating profits of $252 million. The company was to be responsible for $1.4 billion of Hanson's debs. According to one analyst, For Hanson, it achieves a one shor divesti- ture of a number of companies they may have struggled to sell independently, not because the individual assets are unattractive, but because it’s messy to sell so many of them. They are able to divest im a tax efficient way and at the same time take a lot of cash our, leaving them swith the ability to buy someth : Corporate Level Cases: Domestic and Global ‘The spinoff was completed on June 1, 1995. At the time, David Clarke stated that the new company’s first object ve would be to reduce its debt load, pri- imarily by elling off a number of companies valued at $600 million.? Acquiring Eastern Group Only July 31, 1995, Hanson announced that it ‘would acquire Eastern Group, one of Britain's major electric utilities, for £2 billion (83.2 billion). Eastern, which was privatized in 1990, has a customer base of 3 million and is eesponsible for 15 percent of the clectrcity produced in Britain, primarily for natural gasfired penerating facilities, Rastern is aleo the sev- enth largest natural gas supplier in the countey. In the year ending March 31, 1995, Easterns earnings ‘were up 15 percent ro £203 million ($324 billion) on revenues of £2.06 billion ($3.2 billion). Hanson stated that it was attracted to Eastern by its steady earnings growth. However, critics noted that the deal yet again stretched Hanson's balance sheet, which once more had begun to look solid after the US. Industries spinoff. The debt-financed purchase of Eastern caused Hanson's debr-to-equity ratio to shoot up from 37 percent to 130 percent, jonce more raising concerns that Hanson might not be able to scrvice its historically high dividends. A partial response to these concerns came in Decem- ber 1995, when the company announced plans to disposeoftwoadditionalU.S.subsidiaries—Suburban Propane and Cavenham Forest Industries—for £1.5 billion ($2.4 billion). The proceeds were to be used ro pay down Hanson's debt load. Analysts cal- culated thatthe cash raised from these spinoffs would reduce Hanson's debr-to-equity ratio to around 90 percent.!* THE DEMERGER By late 1995 ic was becoming increasingly clear within Hanson's senior management team that dras tic action would be required to boost the company’s lagging share price." As the British and American economies continued in their long recovery from recession, Hanson's cyclical business staged a signifi ‘cant performance improvement, with operating prof- its increasing by 44 percent for the fiscal year thatcase 8 Hanson cass € Exhibit 1 Hanson PLC—Financial Data [een (ae ieee 11,199 1,633 19981623 «9,760 1288 13.2 BOL «310 60D 1,016. «-27B% «= 78475 1,044 1992 18528798 1922 180279 Bd T7208 183% 000k 1,888 1991" 1820 7601 1.927173 882TH] 1.8T9 215K 1.095.135 1.251 feo 17002183. 128673247” ta 38.285 aw 7118 NA gga 16906998 995 M42 192 Tat 3D1,0B4 236% «= BIEN soa 4770 7806 923125198 a7 287m 3.2 gH TNA 6.602 C) Ret oo on Coad ee fo igs 19941866 6815 9.933 6.704 15 21,506 47 5.008 1993 1525-8087 1,636 706518 «24067 33 7221-3953 11,266 G41 18.0 1992 1779-8445 1.204 6.986 18 20541 59 5069 4,224 9490 538 28.9 199117507771 9.955 4751 2.1 16583 68 4.880 3,925 8.81 Sad 88 19901870 6883 G93 4276 21 14764 26 268 2884 7222 60050 ora 1620 5.909 7454 -9,289 23 a2 87 4971 1,088 6,139. aL 501 198816909860 68.158 2463-25 7BIZ «BS 2124 2,192 4659 458 AI 1967 1630 3.059 50142083 24 og78 BB 1727 1.790 3785 B18 Data as origin foportod; pio to 1908 0s enerted in 1987 Annus port. Based an Uk GAA ong rates for income data; fiscal yearend exchange rates fr balan shect "Excludes elections opocstions and selects merger oF acmuiston, \Paflects merger of asquition "Before spac items, on256 ended in September 1995. Despite this performance, the company’s share price had been essentially flat since the early 1990s (see Exhibit 2). Over the same period both the London and New York stock mar 30 percent below that of the average stock on the London exchange, while Hanson’s dividend yield at over 6.5 percent was among the highest offered by any company. It seemed that nothing could move the stock price, not the strong profit performance, not the spinoff of U.S. Industries, not the Eastern acqui- sition, and not the recently announced disposals It was against this background that Ha stunned both London and Wall Street with its January 29 announcement that it would divide the company up into four independent businesses, effec tively dismantling the conglomerate assembled by Hanson and White. Hanson stated that it would split into a chemicals business, an energy company, a ‘pany, and a building materials enterprise uportal Tobacco would be the largest company, with sales of £3.57 billion ($5.37 billion). The energy business, which would include Hanson’s coal and sic businesses, would have sales of £3.5 billion (85.27 billion). The chemicals business would have sales of £2 billion ($3.04 billion), while the building materials group would have sales of £2.3 billion Exhibit 2. Hanson PLC Log scale 300 200 10 ‘Share Price (pence) ‘Corporate Level Cases: Domestic and Global ($3.48 billion)."* Bonham was to run the energy business, while Hanson was to take over the building materials group until his retirement. The company estimated that the demerger would be completed by early 1997. Hanson's stock price initially surged 7 percent on the news, but it fell later the same day and ended up less than 0.5 percent. The lack of a sustained posi- tive reaction from the stock markets on both sides of the Adlantic puzzled Hanson's managers. Over the last few years, a number of diversified companies had announced demergers—including ITT, AT&T, and Sears—and their stock prices had almost always responded in a very positive fashion. In Hanson's case, however, this did not occur, One possible explanation for the lack of a favor- able reaction came from Moody's Investor Service, which put Hanson's debt under review for a possible downgrade one day after the breakup was announced. ‘Moody’s noted that ‘this isa highly complex sequence of transactions which are atan early stage and which will require various approvals.”" Among the con- cerns expressed were that the demerger might raise Hanson’s borrowing costs. ‘The tax. consequences of the demerger were also not immediately appar- ent, although there were some indications that there might be some one-time capital gains tax charges: Moreover, several stock analysts commented that the Log scale ‘Share Price tho FESE-A Al Derek BonhamCase 19 Hanson 8) he not be able or willing to maintain Hanson's historically high level of divi- dcvsls. One influential London-based stock analyst also noted that unlike most conglomerates that were emerging, there were few if any hidden assets a Hanson. This analyst calculated that Hanson's con- nt parts should be valued at 194 pence, which was below the 212 pence price that Hanson's stock closed at on January 30, 1996," stin Endnotes L. BLA. Melcher, "Can This Predator Change Its Stipes?” Business Week, June 22, 1992, 38; |. Guyon, “Hanson Crosses the Atlantic to Woo Investors,” Wall Street Jour nal, December 6, 1983, 7D. 2. R, Rex, “Hanson Increases Investment Payback Timm Financial Times, May 16,1994, 15, 3. P.Dwyerand J. Weber, “Hanson Looks fora Hat Trick” Business Week, March 14, 1994, 68-69. 4. S. McMurray, “UK's Hanson to Buy Maker of Poyeth ne," Wall Sree Journal, July 1, 1993, A3, xon, “Conglomerates $3.2 Billion Gamble Pays it,” Financial Times, December 2, 1994, 23. 6, “Hanson Posts 32% Rise in Pre Tax Profits,” Wall treet Journal, December 2, 1994, BS. 7. P. Taylos, “Hanson Lifted by Quantum Chemical,” Financial Times, August 17,1994, 13. 8 RW. Stenson, “Hanson Plans to Spin Off 34 US Companies,” New York Times, February 23, 1995, Cl AAs a further prelude to the demerger, in March 1996 Hanson announced the sale of its remaining US. timberland operations to Willamette Industries for $1.59 billion. This sale followed Hanson's dis- posal of Cavenham Forest Industeies in December 1995, and ic complered Hanson's exit from the tim- ber business. The cash generated from the sale was to be used to pay down Hanson's debr.'* 9. Le L Brownless and J. Dosfman, “Birth of US. Indus- tries Isn't Without Complicasions,” WallStreet Jourral, May 18, 1995, Bd 10. D. Wighton, “Hanson Plugs into New Curent” Finan cial Times, uly 31, 1995, 15. 1. D. Wighton, "Hanson Secks €1.5 Billion from US. Dis- posal” Binaacial Ties, December 21, 1995, 13. 12, "Widow Hanson's Children Leave Home,” Economist, February 3, 1996, 51-52. 13. R. Bomte-riedheim and J. Guyon, “Hanson to Divide into Four Businesses,” Wall Street Journal, Jonuacy 31, 1996,A3, 14, Bonte-Friedheim and Guyor, “Hanson to Divide into Foue Businesses” 15, D. Wighton, “Centrifugal Forces ‘That Pulled Hanson Apart,” Financial Times, January 31, 1996, 18, 16, “Hanson uy Sell Milly” Wa Street Journal: Money & Investing Update, Match 12,1996,