IF’S response to market pressures and competition was to aggressively attempt into other faster growing divisions of the alcohol beverage market which required to expand its product lines. The company intended to increase advertising of $86 million to massively promote its alcoholic product lines. The company also realized that future growth was very dependent on it gaining access to foreign markets. Due to those obstacles, Southern Comfort (SC) seems to be an attractive horizontal acquisition for BE with the following advantages and disadvantages. Advantages: 20% of the SC sales were overseas.
Its exports market also had the highest 5-year compound growth rate compared to other markets The company developed a distinctive brand with loyal customers SC being a liqueur does not need to age and an be produced and sold much faster than the traditional whiskey line. With an acquisition, shareholders value will lead to an increase in both earning per shares and the share value. Strong balance sheet with higher than average sales/assets ratio of 2. 49 in 1977, the company has more profitable assets that can generate more earnings by minimizing the fixed cost per unit as a result of higher production levels.
SC is a profitable company with a profit/sales ratio as high as 7% on par with BE. BE has a low debt/equity ratio; over the past few years the firm has placed itself in an outstanding financial position, which has brought about the higher levels of debt that they can use to finance new acquisitions and other investment opportunities. Similarly, SC was never sold at a discount by Its manufacturer and was considered a very strong brand within the liquor Industry. Disadvantages: SC Is not listed and wants to be taken over at 394. M but the book value In 1977 was just $16. Mm. SC may be overestimated at this price. This acquisition should be further investigated more as a strategic acquisition, and depend upon the company’s post-performance. The hurdle rate is too high meaning that BE is very conservative to make the decision. Thus the company should change this hurdle rate; otherwise they could miss out on important opportunities such as SC. BE may run out of liquidity if the company uses a significant amount fee spending in advertising to market SC brand more attractively. . What is Southern Comfort worth? SC produces unique liquor, which is mixed by a secret formula and has exclusive rights that have a huge synergies benefit to the present BE product mix-line offerings and brand equity. SC has strengthened channels of foreign distribution and antistatic brand growth In 1 977 compared with competitor brands in the same product line. SC Is not widely marketed and that It Is Incorrectly positioned market because they think it is a whiskey. If acquired, SC could bring in the foreign SC could add a huge extra value to BE.
SC also has a well reputable brand offering and the management is effective and efficient, thus the acquisition of SC would fit well in BE style of management philosophy. SC also has modern equipment that is to strengthen the assets of BE and could be used in the continued production of SC thou replacing asset in the foreseeable future and/or tries to adjust the production of SC to BE product line systems and standards. Thus the operational strategic competitive position of BE could be enhanced.
That could also improve agility or obtain resources that are vital to future prosperity of the SC in particular and BE in general. SC has a number of tangible and intangible resources that will address the gaps in Brown Foreman growth strategies through an acquisition. From a tangible resource perspective, its plants is equipped with modern equipment, it has throng financial as indicated by its net profit margin 7% in 1977. Its strong intangible resources and capabilities are its secret recipe to expand Brown Formant’s product line.
Increasing the growth rate of the cash flow or reducing the WAC will lead to the value raise. BE has experienced a smooth growth rate of their cash flow so it may be difficult to obtain now, lower WAC and maintain the require rate of return to increase the shareholders’ value. It should be the most sensitive element in this case. Growth Rate examination: In Exhibit 9 the SC is showing a good average gross profit growth rate of 7% which will enhance the shareholder value after the acquisition, historic ATA shows shipments of Southern Corporation’s 5-year compound growth is 13% and 20-year compound growth is 13. 5%. The decline of growth could be achieved to the mature range of lifestyle. The product could have reached maturity and will need more innovation. 4. What should Brown do? Based on factors mentioned above, it is recommended that BE may acquire SC. The firm value is calculated $90. Mm that is lower than $94. Mm; hence BE should completely analyze the acquisition because the Southern Comfort Corporation seems to be overvalued Exhibit 10 has shown a decrease in stock price from 6/16/78 to /30/78, which could indicate relative concern in the marketplace regarding an acquisition.
The debt to equity ratio of Brown Forman is 24. 7% and Industry average is 55%. Therefore the company can try finance more debt to take over this acquisition as well as receiving the additional tax shield benefits (currently tax is a very high at 49%) As much as management has experience with other acquisitions, this does not necessarily mean that this particular transaction will be seamless. BE should negotiate to reduce the price in order to make the practical transaction.
