Wm. Wrigley Case

In: Business and Management

Submitted By jdfox
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Case 30: Discussions

1. Dobrynin plays the role of the financial entrepreneur, exploiting inefficiencies in investment valuation and corporate finance. She seeks to profit by restructuring firms with “lazy financing” or too much cash and unused debt capacity relative to the (low) risks faced by the firms. By pressuring directors and managers to adopt more efficient policies, she hopes to reap an investment gain. The larger issue is whether or not Wrigley is inefficiently financed. If so, how much capital structure change will bring it to more efficient operation?

2a. A recapitalization based on a dividend will have no effect on the number of shares outstanding. But with a repurchase, the number of shares will change materially. If we adjust the current stock price only for our estimate of tax benefits, the repurchase price would be $61.53. Wrigley currently has 232.4 million shares outstanding. At that price, 48.755 million shares will be repurchased ($3 billion/$61.53), leaving 183.686 million shares outstanding.

2c. With the addition of the new debt, Wrigley’s share price should quickly and fully reflect the changes in investors’ perceptions stemming from the repurchase once the company publicly discloses its intentions.

One way to frame the issues is—immediately upon the announcement—the stock price should change to reflect the following:

Post-recapitalization equity value
= Prerecap. equity value
Present value
+ Debt tax shields
Present value of distress-related costs
Signaling, incentive, & clientele effects

$61.53
= $56.37

= $56.37
+ Tc × Debt 0.4 × ($3,000)
+ $1,200 or
+ $5.16/sh
Challenging to observe ?
Unobservable

?

The effect of the present value of debt tax shields: It shows that adding $3 billion in debt to Wrigley’s capitalization and returning a like amount to shareholders will…...

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