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General Mills Case Study Solution "Acquisition of Pillsbury"
Topics that are covered to solve this case
  • Benefit of the acquisition
  • Present value of cost savings
  • Deal structure
  • Contingent payment analysis
  • Acquisition cost
  • Recommendation
Benefits of the Acquisition
  • Accelerate sales and earnings growth by acquiring
    Pillsbury
           >  Product Innovation
           >  International Expansion
           >  Channel Expansion
           >  Productivity Gains
  • Combined product portfolio would be more balanced
  • Combined firm would rank 5th in size among
    competitors based on food sales
  • Cost savings
Present Value of Cost Savings
  • Weighted Average Cost of Capital (WACC) for General Mills
           > Cost of Equity = 9.6%
           > Cost of Debt = 9.5%
           > Tax Rate = 40%
           > After Tax Cost of Debt = 5.7%
           > Weight of Debt (D/V) = 10.8%
           > Weight of Equity (E/V) = 89.2%
           > WACC = 9.2%
  • Expected Cost Savings
           > 2001 = $25m, PV = $23m
           > 2002 = $220m, PV = $185m
           >2003 = $400m, PV = $307m
           >Total PV = $515
Deal Structure
  • Payment shares
  • Assumption of Pillsbury's debt
           > Existing debt = $142m
           > New borrowing = $5billion
  • Contingent payment by Diageo to General Mills
Contingent Payment Analysis
  • What is it?
           > "Claw-back" or "Contingent Value Right"
                   >>Claw-back is previously given monies or benefits that are taken back due to specially arising
    circumstances.  
                       A retraction of stock prices or of the market in general.  Purchasing certain investments provides
    taxable
                       benefits contingent upon holding periods. When you sell these investments before they have
    maturity, the
                       benefits must be returned.  In Layman's terms, a fall in a stock price right after an increase is
    called a clawback
                       of the price.
           > Reclaim some value for GM if the stock price more than $42.55 one year after the acquisition
           > Diageo will retain its share price if GM stock price drops in one year after the acquisition
  • What are the terms?
           > $642m if average daily share price for 20 days is greater than or equal to $42.55
           > $0.45m if average daily share price for 20 days is less than or equal to $38
           > Variable amount: Diageo will retain the amount by which $42.55 exceeds the daily price for 20 days
  • Why?
           > GM believes their shares are undervalued and the stock price will increase within one year
           > Diageo believes that the stock price will stay the same or decrease within one year
           > To bridge gap: GM and Diageo incorporate the contingent payment as described earlier
  • Who benefits?
           > GM benefits because GM receives $642m in one year if the average daily share price is $42.55 or
    more
           > Diageo benefits because they will not lose value if the price drops
  • How does it work?
           >Buy and sell a put option at the same time
Acquisition Cost
  • Payment of shares, GM to issue 141m shares of
    common stock
  • Assumption of $5.142B of Pillsbury's debt
  • Transaction cost: $55m
  • Contingent payment by Diageo to GM in 1 year
Recommendation
  • Cost savings create positive synergies
  • Total acquisition cost is somewhere between
    $10.555B and $11.196B
  • With synergies, Pillsbury's value is estimated to be
    $11.3B - $14.2B per Evercore Partners and
    $11.836B - $13.489B per Merill Lynch
The questions that should be answered include:

General Mills Acquisition of Pillsbury

1.        What are General Mill’s motives for this deal?  Please estimate the present value of the expected cost
savings.

2.        Why was the contingent payment included in this transaction?  How does the “claw-back” affect the
attractiveness of the deal from the standpoints of General Mills and Diageo?

3.        How does the contingent payment work?  Please prepare a payoff diagram (i.e. “hockey-stick diagram”) of
the claw-back feature.

4.        What is the contingent payment worth in early December 2000?

5.        Is this deal economically attractive to General Mills’ shareholders?  Would you recommend that shareholders
approve, or reject, this deal?