Case Summary

The chairman of Kraft Inc. has just sent across a letter to all its existing shareholders proposing a restructuring plan in order to stop Phillip Morris from taking over Kraft. This was triggered by Phillip Morris Companies offer to acquire Kraft Inc. shares at $90 a share as against the closing price of $60 on that given day. Phillip Morris was had tried to launch this hostile offer for Kraft with the aim of merging the two and thereby becoming the largest Foods company in the world. But the way in which the offer was made was not received well by the management and Board of Directors of Kraft. This can clearly be seen in the letter sent by the chairman of Kraft to the chairman of Phillip Morris. This has led to Phillip Morris mellowing down its stand and attempting to launch negotiations given the fact that the shares of Kraft have already begun trading above $90. But by then Kraft had decided to instead launch its own restructuring plan that would provide more value to the shareholders than the one proposed by Phillip Morris. Kraft hence launched a restructuring plan that would provide approximately $110 a share and it consisted of $84 in cash dividend and another high yield debt of value $14 and at the end of this they would have a stock with a value of $12 a share. Hence they proposed this $110 value for a share and that if any company intended to takeover Kraft they just had to pay the $110 or more and close the deal. This did not deter Phillip Morris as they felt they still could get to the negotiations table if their bid failed to entice the shareholders of Kraft. This was part of their grand plans to become the largest consumer products company in the world overtaking the Unilevers and also to diversify from the Tobacco business as most other companies in the industry were doing. Phillip Morris had just Miller brewing company and had previously acquired General Foods. RJR had bought out Heublin Inc. and more recently the much publicized Nabisco Brands. RJR Nabisco was also currently attempting to acquire Pillsbury. This was all part of a large merger mania in the US at that time when many big companies were going for high profile and high value acquisitions. Phillip Morris through their letters have clearly now tried to begin negotiating with the top management of Kraft with the view that their currently proposed $90 a share offer was almost certainly not going to go through. Phillip Morris has previously had mixed results from its previous acquisitions. It had to write off losses when it sold its Seven-up operations. Their acquisition of General Foods was not particularly doing well and they had plans to use the Kraft takeover to revitalize General Foods and arrest the slide in their earnings. This acquisition would also further reduce the dependence of Phillip Morris on the tobacco business. Phillip Morris proposed to finance the acquisition with $1.5 billion in excess cash and credit lines of up to $12 billion. On the other hand Kraft planned to use cash proceeds of $2.1 billion after taxes and sell some businesses as well as avail $6.8 billion in bank borrowings. The debt received by the shareholders would accrue interest at 15.25% annual rate (paid semiannually) with no cash payments in the first 5 years.

Problems Identified
From the letters in the appendix we can see that Kraft and its management has not taken too lightly with the hostile attempt from Phillip Morris. This as can be seen from the outset is an ego issue and especially as both the chairmen had just met at a public gathering just a week ago. If Phillip Morris had tried to take the friendly route they would probably have had a better chance at negotiating a better deal with the management of Kraft. The environment was not really conducive for such a high profile takeover given the sleuth of such attempts in the recent past. What such an environment does is, it inflates prices by a huge extent because a lot of such dealings are going on and also Phillip Morris have not kept their cards close to their chest by directly going to the shareholders. The fact that Phillip Morris has a lot to gain out of the proposed transaction whereas there is little value evident for Kraft from the deal is the main stumbling block. Especially the fact that a hostile takeover will not provide much incentives to the top management and the fact that they could be easily fired after the acquisition goes through does not really add motivation for the top management to encourage the shareholders. The proposed restructuring plan would heavily weigh down Krafts balance sheet with debt and increase its leverage by a huge amount. Currently it is not so leveraged and hence there is not much pressure on the

books. But the proposed deal is more of a management buyout and hence it would put a lot of debt on their books and this would lead to very little growth prospects for the future.