Category: Economics for Business: 8e Ch 16

When Kraft took over Cadbury, it was seen as a large take-over, but its size pales in comparison to the potential takeover of AstraZeneca by Pfizer. However, having made two offers for the UK drugs firm, the US company has been rejected twice, saying the terms of the offer were ‘inadequate, substantially undervalue AstraZeneca and are not a basis on which to engage with Pfizer.’

Pfizer initially made an offer of £46.61 per share, valuing the company at £58.5bn, but this latest offer increased the share price to around £50 and raised the company value to £63bn. The rejection was relatively swift and the price still too low, though analysts are suggesting that a price closer to £53 may tempt shareholders. At the moment the negotiations between these two giants remain ‘friendly’, but with this second offer being rejected by the Board, there are now concerns that the takeover could become ‘hostile’ with Pfizer going directly to shareholders. Indeed one investor has said:

We were very keen that the two boards actually get around the table and disucss the bid … I’m never very keen when companies just dismiss things and don’t allow shareholders to take a decision on it … The key thing is that these businesses get talking to each other so they can hammer out a deal.

Following the second offer, shares in AstraZeneca rose by 10p, as the debate continued as to whether such a take-over would be good or bad for British jobs.

Cadbury was seen as a jewel in the crown of British industry and the same can be said of AstraZeneca, especially with the growing importance placed on the Science sector in the UK. While Pfizer has now given the British government further assurances about protection for Britain’s science base, there are still concerns about what this take-over would mean for British jobs. Pfizer has said that 20% of the company’s workforce in research and development would work in the UK and the planned R&D base in Cambridge would still go ahead. However, asset-stripping is a phrase that has been thrown around, based on Pfizer’s previous take-overs and, based on this history, many are suggesting that any assurances made by Pfizer will be pointless. In particular, Allan Black from the GMB union said:

Similar undertakings were given by US multinationals before which have proved to be worthless.

This was echoed by Lord Sainsbury who commented that any assurances made by Pfizer would be ‘frankly meaningless’. However, Vince Cable seems more confident about the consequences for British industry and said:

We’ve now received some assurances from the company that they will strengthen the British science base, they will protect British manufacturing … We need to look at that in detail, we need to look at the small print, we need to establish that it is binding, but as far as it goes, on the basis of what we’ve seen so far, it is welcome and encouraging.

We therefore seem to have a tale of two stories. On the one hand, the assurances of a US company that British jobs and its science base will be protected, but on the other hand, suggestions that we should take Pfizer’s assurances with a pinch of salt and that any take-over could be ‘devastating’. The truth of the matter will only be known if and when the take-over goes ahead and perhaps more importantly, whether it remains friendly and co-operative or does indeed go ‘hostile’. The following articles consider this medical take-over between giants.

AstraZeneca rejects Pfizer bid as US Pharma giant courts UK government The Guardian, Julia Kollewe and Sean Farrell (2/5/14)
AstraZeneca rejects new Pfizer offer BBC News (2/5/14)
AstraZeneca Pfizer: major shareholder urges talks The Telegraph, Denise Roland (2/5/14)
AstraZeneca rejects Pfizer’s raised bid of 63 billion pounds Reuters (2/5/14)
Pfizer-AstraZeneca offer: IoD warns intervention ‘disastrous’ for Britain. The Telegraph, Louise Armitstead (2/5/14)
Pfizer enters takeover discussions with AstraZeneca, sources say Wall Street Journal (2/5/14)
Exclusive: Pfizer insider warns that takeover of AstraZeneca could be ‘devastating’ Independent, Jim Armitage and Chris Green (2/5/14)
The Cadbury deal: how it changed takeovers BBC News, Ben Morris (2/5/14)
Pfizer set to make higher bid for AstraZeneca The Guardian, Julia Kollewe (1/5/14)
The UK’s response to Pfizer’s takeover bid is incoherent and misguided The Guardian, Larry Elliott (4/5/14)

Questions

  1. What type of take-over would this be classified as? Explain your answer.
  2. What would occur if the take-over became ‘hostile’?
  3. Using a demand and supply diagram, explain why share prices in AstraZeneca went up by 10p on the day the second offer was made.
  4. How would such a take-over affect British jobs?
  5. Explain how this proposed take-over could (a) boost British R&D in science and (b) harm British R&D in science.
  6. To what extent might there be concerns from the competition authorities were this take-over to go ahead? How might such a takeover affect Pfizer’s market share and hence its ability to charge a high price?

Globalisation has led to an increasingly interdependent world, with companies based in one country often dependent on a market abroad. In recent years, it is the rapid growth of countries like China that has led to growth in the size of the markets for many products. With incomes rising in emerging countries, demand for many products has been growing, but in the past year, the trend for Prada has ended and seems to be reversing.

As the market in China matures and growth of demand in Europe slows, Prada has seen its shares fall by the largest margin since June last year.

Prada is a well-known luxury brand. The products it sells are relatively expensive and hence its products are likely to have an income elasticity of demand well above +1. With changes in China and Europe, Prada expects its growth in sales to January 2015 will be ‘low single-digit’ – less than the 7% figure recorded for the last financial year.

This lower growth in same-store sales is likely to continue the following year as well. Add on to this the lower-than-expected profits, which missed analysts’ forecasts, and you have a prime example of a brand that is suffering because of its customer base and the economic times.

Prada isn’t alone in suffering from economic conditions and, relative to its European counterparts, is expected to have higher growth in sales and profits in the next 12 months – at 11.5% and 14.8% respectively. This is according to a survey by Thomson Reuters.

Prada has exploited high demand by Chinese consumers, but has recently been affected by the strength of the euro. A strong euro means that the Italian-based Prada is struggling with exports, which only adds to its problems. As economic growth picks up in China and as other emerging economies begin to experience more rapid economic growth, the fortunes of this luxury-retailer may change once more. However, with volatile economic times still around in many countries, the future of many retailers selling high-end products to higher income customers will remain uncertain. The following articles consider the fortunes of Prada.

Prada shares fall sharply after China luxury warning BBC News (3/4/14)
Prada falls after forecasting slowing luxury sales growth Bloomberg, Andrew Roberts and Vinicy Chan (3/4/14)
Prada profits squeezed by weakness in Europe and crackdown in China The Guardian (2/4/14)
Prada bets on men to accelerate sales growth Reuters, Isla Binnie (2/4/14)
Prada misses full year profit forecast Independent, Laura Chesters (2/4/14)

Questions

  1. How can we define a luxury product?
  2. Explain the main factors which have led to a decline in the demand for Prada products over the past 12 months.
  3. Using a diagram, illustrate what is meant by a strong euro and how this affects export demand.
  4. What business strategies are Prada expected to adopt to reverse their fortunes?
  5. Using a diagram, explain the factors that have caused Prada share prices to decline.

Valued by private investors at more than $10 billion, the future listing on the stock market of Twitter, is an eagerly anticipated event. The necessary forms have been submitted to the US Securities and Exchange Commission (SEC) ahead of the initial public offering (IPO). Twitter will be looking to avoid the mistakes made by Facebook when they were first listed in May last year. Twitter has also announced its intentions to purchase MoPub, which is a firm specialising in mobile advert exchanges.

So, what will this listing mean for Twitter? The public will now be able to purchase shares in Twitter, in much the same way as you can buy shares in RBS or Facebook. The financial performance of Twitter will come under much greater scrutiny from its shareholders, who will be interested in short term returns and long term stability. Becoming a public limited company will attract investors and is likely to provide a much larger scope for expansion for Twitter. However, as yet no details have been released on a likely date for the flotation or on the prices we can expect.

One thing Twitter will be trying to avoid is a repeat of the problems that beset Facebook and indeed of the problems that other public listings have created for giants such as Google, Zynga and Groupon. When Facebook moved to public ownership, its share prices initially fell below its IPO and subsequently Facebook lost more than half its value. More recent success in mobile advertising has restored the fortunes of this company, but Goldman Sachs, which is handling Twitter’s transition will be looking to avoid a similar occurrence. As Sam Hamadeh from PrivCo (a firm that gathers data on private companies) said:

Twitter will learn from Facebook’s flawed playbook and do the opposite … Unlike Facebook, which waited too long to IPO (until its growth rate decelerated), Twitter will IPO at just the right inflection point: while revenue grows in triple digits.

Twitter is a rapidly growing business, but still has significant scope for expansion and this move to public ownership may be just the thing. Setting the right IPO and the right date will be crucial, as a multitude of factors can and do affect the price of shares listed on the stock market. Twitter will also need to ‘focus on doing the right stuff’ to make a success of the listing and its purchase of Mopub looks to be a step in the right direction. For now, all we can do is speculate, but if the launch is successful, then the founders of Twitter are likely to bring in hundreds of millions of dollars each.

Twitte files for IPO The Telegraph, Sophie Curtis (13/9/13)
Twitter plans stock market listing (see also) BBC News (13/9/13)
Twitter files for IPO, hopes to avoid Facebook’s mistakes Independent, Nikhil Humar and James Vincent (12/9/13)
Facebook shares close 11% below flotation price BBC News (21/5/12)
Twitter fails to answer key IPO questions Financial Times, Richard Waters and April Dembosky (13/9/13)
Twitter IPO: how much is it worth? The Guardian, Juliette Garside (13/9/13)
Twitter IPO: Tech float successes and disasters The Telegraph, Gabrielle Putter and Szu Ping Chan (13/9/13
Twitter to see ‘strong demand’ for share sale BBC News (13/9/13)
Twitter IPO: Firm in stock market launch bid Sky News (13/9/13)

Questions

  1. What are the characteristics of a public limited company? Are there advantages and disadvantages?
  2. Which factors affect (a) the supply of shares and (b) the demand for shares?
  3. What mistakes were made by Facebook when it made the transition to public ownership?
  4. How does advertising generate revenue for Twitter?
  5. How might you go about valuing Twitter or Facebook?
  6. Companies such as Twitter and Facebook have hundreds of millions of subscribers. Are there network externalities of this?
  7. Twitter is purchasing MoPub. What type of takeover would you classify this as?

When you hear about China, it’s often regarding their huge population, their strong growth or their dominance in exports. But, when it comes to baby milk, China is certainly an importer – and a big one at that. For many new parents, getting the ‘real thing’ when it comes to baby formula is absolutely essential.

Chinese baby formula is feared by many new parents, due to the potential for it to contain hormones and dangerous chemicals. This has led them to go to great lengths to ensure they have sufficient supplies of imported baby formula, often only trusting it if it has been hand carried from overseas. However, such is the demand for this safe version of baby milk that the global response has been to place restrictions on it. Essentially, we are seeing a system of rationing emerging.

Hong Kong was the first government to limit the amount bought to two cans of formula per day, with the potential for a fine of over $64,000 and up to two years in prison for those who do not abide by the rules. The UK has now also responded with restrictions on the quantity that can be purchased and other countries may follow suit if the excess demand continues.

According to Sainsburys:

As a short-term measure, retailers including Sainsbury’s are limiting the amount of baby milk powder that people can buy. In this way we aim to ensure a constant supply for our customers and we therefore hope they won’t be inconvenienced.

The Chinese government has reacted to this and is aiming to restore confidence in the food industry, but as yet there has been little positive effect and until there are 100% guarantees of food safety the surge in demand for baby formula from abroad is likely to continue.

This policy of rationing is clearly not only going to affect Chinese parents looking to import baby formula, but is already having an impact on domestic residents. Parents living in the UK are feeling the rationing effects and are also being restricted in terms of how many cans of formula they can buy per day. For many families this isn’t a problem, but for those with multiple children and for whom a trip to the supermarket is not a simple task, the restrictions on baby milk purchases is likely to become a problem. The following articles consider this topic.

Baby milk rationing: Chinese fears spark global restrictions BBC News, Celia Hatton (10/4/13)
Stop rationing information about baby formula milk The Telegraph, Rosie Murray-West (9/4/13)
Baby milk rationed in UK over China export fear BBC News (8/4/13)
Baby Formula rationed in UK over China demand Sky News (9/4/13)
Supermarkets limit sales of baby milk to stop bulk buying to feed China market Independent, Emma Bamford (8/4/13)
Cahinese thirst for formula spurs rationing Financial Times, Amie Tsang and Louise Lucas (7/4/13)
Entrepreneurs milk Chinese thirst for formula Financial Times, Amie Tsang and Louise Lucas (7/4/13)
Baby milk powder rationing introduced by supermarkets The Guardian, Rebecca Smithers (8/4/13)

Questions

  1. Using a diagram of demand and supply, illustrate how a shortage for a product can emerge. How does the price mechanism usually work to eliminate a shortage?
  2. What actions can be taken to deal with a shortage?
  3. How will more stringent regulations by the Chinese government help to restore confidence in Chinese baby milk formula?
  4. What impact will the imports of baby milk formula into China have on China’s exchange rate and its balance of payments?
  5. How could this situation be taken advantage of by entrepreneurs? Could it be used as a viable business opportunity?

Few people have £18bn worth of funds to spend. But someone that does is Warren Buffett and a Brazilian firm, who look set to purchase Heinz for this sum. Heinz, known for things like baked beans and ketchup already has an exceptionally strong brand and is cash rich – these are two ingredients which Warren Buffett likes and have undoubtedly played their part in securing what looks to be a tasty deal.

The company’s Board has already approved the deal, but shareholders still need to have their say and have been offered $72.50 per share. 650 million bottles of Heinz ketchup are sold every year and its baked beans, at the least in the UK, are second to none. Products like this have given Heinz its global brand name and have provided the opportunity to shareholders to make significant gains. Its Chairman said:

The Heinz brand is one of the most respected brands in the global food industry and this historic transaction provides tremendous value to Heinz shareolders.

This statement was certainly reciprocated by Warren Buffett when he spoke to CNBC, saying:

It is our kind of company … I’ve sampled it many times … Anytime we see a deal is attractive and it’s our kind of business and we’ve got the money, I’m ready to do.

The deal therefore looks to be profitable to both sides, but is there more to it? An investigation has already been launched by the Securities and Exchange Commission as to whether information about this purchase was leaked early and was used to make money. Insider trading occurs when someone is given information early about a merger such as the one described above. They then use this information, before it is made public, to buy up a company’s stock. It is incredibly difficult to prosecute and huge amounts of money can be made by hedge funds, amongst others. This is certainly one aspect of the deal to keep your eye on.

So, what does the future hold for Warren Buffett and Heinz? Buffett likes to extract extra value from companies he purchases and has in the past split up his businesses to create separate trading companies. However, given his taste for ketchup and his appreciation for strong global brands, it’s unlikely that we’ll see a change to the recipe of any of the well-known products. The following articles consider the takeover and the case of insider trading.

Will Buffet ‘squeeze value’ from Heinz BBC News (15/2/13)
Heinz-Buffett deal: will anyone spill the beans on insider trading? The Guardian, Heidi Moore (15/2/13)
Heinz bought by Warren Buffett’s Berkshire Hathaway for $28bn BBC News (14/2/13)
Traders sued over Heinz share bets Independent, Nikhil Kumar (16/2/13)
Heinz deal brings it back to its roots Financial Times, Alan Rappeport, Dan McCrum and Anoushka Sakoui (14/2/13)
Beanz means Buffet: Heinz purchased in $28bn takeover The Guardian, Dominic Rush (14/2/13)
US SEC sues over Heinz option trading before buyout Reuters (15/2/13)
Warren Buffet and Brazil’s ‘Sage’ Jorge Leman strike £18bn Heinz deal The Telegraph, Richard Blackden (15/2/13)

Questions

  1. What type of take-over would you class this as?
  2. Consider the Boston matrix – in which category would you place Heinz when you think about its market share and market growth?
  3. Why is a company that has a global brand and that is cash rich so tempting?
  4. Given your answer to question 3, why have other investors not taken an interest in purchasing Heinz?
  5. If you were a shareholder in Heinz, what factors would you consider when deciding whether or not to vote for the takeover?
  6. What growth strategy has Heinz used to establish its current position in the global market place?
  7. What is insider trading? Explain how early information can be used to make money in the case of Heinz.
  8. Explain how the share price of $72.50 is set. How does the market have a role?