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Commercial Awareness: The Fortnightly Round-Up (w/b 13th February)

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About The Author

Jack Turner (Commercial Awareness Guru)

Jack is a law graduate from the University of Manchester and is currently working for as an analyst for a 'Big 4' accountancy firm. He has an interest in current affairs, business and commercial law, while also being a talented and passionate musician.

This article is part of the 'Commercial Awareness Fortnightly Round-Up' series, edited by Jack Turner.

Every two weeks, Keep Calm Talk Law will bring you an overview of main commercial stories that have occurred. Detailing the main players involved, the interesting and salient facts, and the main points of discussion that arise from each story, this round-up is intended to be vital tool for developing that commercial knowledge and awareness demanded by the country’s top law firms.

Other articles from this series are listed at the end of this article.

Kraft Heinz makes a Bid for Unilever

Kraft Heinz, the US food conglomerate, has made a £112bn takeover offer for Unilever. Shares in Unilever surged following the offer but pulled back slightly upon the announcement that Unilever had declined the initial offer.

Unilever is the forth-largest consumer goods company in the world by sales, meaning that this takeover would be one of the largest in history and would bring together some of the world’s largest brands. UK takeover rules require Kraft Heinz to make a firm bid by close of business on 17 March or walk away from the deal for six months.

Unilever, which has a strong commitment to corporate social responsibility, may wish to take note of Kraft’s takeover of Cadburys in 2010 which resulted in redundancies and abandonment of Cadbury’s commitment to Fairtrade. 

Talking Points

This is an example of how the weak pound, following the Brexit referendum result, is making UK businesses more attractive as M&A targets. The combination of a strong dollar and a weak pound means Unilever will be much cheaper for Kraft Heinz to acquire when their bid is converted back into US dollars. As the pound remains weak we may witness an influx in M&A activity from overseas investors involving UK companies.

This deal is still in its early stages and strong statements from Unilever denying the financial and strategic merit of this takeover indicate that it may not even materialise. However, this is an important story to keep track of as it contains a number of interesting issues at various stages of the M&A process.

First, it will be interesting to see Kraft Heinz’s strategy for persuading Unilever to agree to this takeover; they could launch a hostile takeover bid or seek to charm Unilever shareholders and management and significantly increase their offer. Second, it is always useful to examine how these megadeals are financed as they require significant capital. Familiarising yourself with the intricacies of a deal can really help you get to grips with the ins and outs of a transaction and can help you impress at interview. Third, if this deal goes ahead it will create a lot of noise from politicians and regulators. It will be a significant market consolidation and will raise antitrust issues which lawyers involved in the deal will need to address.

Finally, it may also raise post-acquisition integration issues. Unilever own a number of quality brands that are prominent in less developed economies. Kraft Heinz on the other hand, own a number of “tired” brands where ingredients can be changed or removed in order to strip costs and they operate mainly in their domestic markets. Similarly, Unilever has a well-established commitment to corporate social responsibility whereas Kraft Heinz has a history of sacrificing corporate social responsibility in favour of cost reductions. It would be interesting to examine how Kraft Heinz would integrate Unilever’s business model into its own following the acquisition.  

Linklaters is advising Unilever on the bid, while US firm Paul Weiss is advising Kraft Heinz.

UK Inflation Rise

Inflation reached a two-and-a-half year high of 1.8% last month, up from 1.6% in December. This increase is mainly due to rising oil prices and a weaker pound being passed on to consumers. A weaker pound makes foreign imports more expensive to buy for UK retailers and rising oil prices increase the cost to transport these goods.

Consumer spending has played an important role in ensuring the UK economy has performed better than expected since the UK’s vote to leave the European Union. Official figures released by the Office for National Statistics this week showed retail sales volumes dropped by 0.3% in January compared with the previous month. Higher prices caused by inflation could continue to discourage consumers and weigh on economic growth in 2017.

Talking Points

Law firms may be concerned with how rising inflation will affect any of their clients operating in the retail and consumer goods market. As the prices of UK goods rise they become less competitive on a global scale as well as discouraging consumers on the domestic market. This will cut into retailer’s balance sheets and leave them with less capital to make further investments.

If inflation does have the effect of weighing on economic growth, the UK may become less attractive to outside investment. Law firms can pay a significant role in accommodating foreign investment in the UK and can generate significant revenue from fees. It is in the interest of law firms operating in the UK, and many of their clients, for the UK to remain a safe haven for investment.

Price inflation could also lead to wage inflation. Businesses, law firms included, may have to consider increasing wages in order to meet the rising price of goods if inflation gets too high.

Toshiba’s Nuclear Problems

Toshiba announced a $6.3bn writedown on its US nuclear division. The writedown is linked to an ill-fated acquisition by Toshiba’s US subsidiary, Westinghouse Electric, of nuclear construction company CB&I Stone & Webster. Toshiba believes that Westinghouse overpaid for the company and that information material to the acquisition, relating to overrunning costs and delays, were not disclosed properly or accounted for. All of this means that the assets acquired by Westinghouse are likely to be worth less than initially thought.

Toshiba shares are down more than 50% since mid-December and as much as 12.2% in early trade on Wednesday as investors make known their uncertainty about the company’s position. Such uncertainty also saw rating agencies cut ratings on Toshiba’s credit, making it more expensive for the company to borrow money.

The company has suggested that it may raise the funds it desperately needs to offset the losses in the nuclear division by selling part of its memory chip business. This unit has been valued at between $9bn and $13bn and is the second largest chip maker in the world, behind Samsung. While selling this unit may help Toshiba meet its liabilities, it will leave investors with only the struggling nuclear business at the core.

Toshiba also plans to curb spending on new plants overseas and focus on lower risk reactor designs. Such a strategy casts a shadow of doubt over the future of many proposed projects, including the contract Toshiba holds as part of a joint venture to build a new nuclear power plant in Moorside, Cumbria.

Talking Points

This story is a strong reminder of the importance of due diligence and valuation in the M&A process. Generally, buy-side due diligence seeks to understand the profitability of the target, identify any potential liabilities, and any matters to be addressed when integrating the target’s operations into those of the buyer. Careful due diligence should have identified the spiralling costs of the nuclear construction projects that Westinghouse was set to acquire from CB&I Stone & Webster and how these liabilities would have been transferred to Toshiba. Similarly, an appropriate valuation of CB&I Stone & Webster should have taken these liabilities into account. As Toshiba has found out, failure to properly carry out these processes can lead to overpaying for a company and its assets and assuming any unexpected liabilities in it.

Snap’s IPO Valuation

Snap Inc., the company behind the messaging app Snapchat, has valued the company as high as $22.2bn ahead of its initial public offering (IPO). This is based on a price range of $14 to $16 per share. The company hopes to raise $3bn from the offering, which would make it the third-biggest US tech IPO.

This IPO is far from conventional: it will be the first US IPO to issue shares with no votes at all; Snap has never turned a profit; and Snapchat’s quarterly average daily users have been declining in growth over the last two years. Still, Snap hopes to lure investors with its young and engaged user base that advertisers are keen to reach on mobile.

Talking Points

Given that Snap has never turned a profit, it is difficult to understand how shares can be valued at $14 to $16 and the company valued as high as $22.2bn. The value in Snap clearly lies in its intangible assets i.e. Snap’s intellectual property, and such value cannot be truly realised until these assets are sold. Many investors will be buying shares in Snap in the hope that they will receive a significant pay-out if a larger tech company such as Facebook or Google acquires Snap or any of its assets.

Even if the company is worth $14 to $16 per share, investors must be vigilant of the fact that the shares do not come with voting rights. However, issuing shares with no voting rights still provides a deterrent against Snap conducting business in a way that goes against their shareholders' wishes. Investors must learn to vote with their feet and show their dissatisfaction by selling shares. Similarly, Snap must be prepared for the value of their shares to fall if they upset their shareholders.

Snap’s IPO is an example of the changing ways in which tech companies are seeking to raise capital and could pave the way for other tech companies to go public in the future. Law firms with a strength in capital markets or with large tech companies on their client roster could play a role in facilitating IPO’s if more tech companies choose to brave the public market.

US firms Cooley and Goodwin Procter landed lead roles in advising Snap on this IPO.

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Tagged: Banking & Finance, Commercial Awareness, Legal Business, Legal Careers, Technology, Trade

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