Lester_Electronics

Running head: PROBLEM SOLUTION: LESTER ELECTRONICS Problem Solution: Lester Electronics MBA 540 University of Phoenix Problem Solution: Lester Electronics (Paul Robey) The order has been given from Lester Electronics Incorporated (LEI) board of directors to develop financing solutions for the acquisition of Shang-wa Electronics. LEI must protect the company since 43% of their revenue is tied to Shang-wa’s exclusive line of capacitors. Both companies have been approached by possible acquisitions by third parties Avral and Transnational Electronics companies. This acquisition raises several unanswered questions for Bernard Lester. What is the best method to structure the financing for all parties involved' What financial strategies will the new firm employ' What new markets will be targeted after the merger' Will there be any changes to the capital structure of the organization' Will the combined company have any financial leverage for future projects' What solutions can LEI and Shang-wa expect to implement' What are the risks associated with the different proposed solutions' What is the approximate timeline for these projects milestones to be completed' Lester must employ an aggressive growth strategy to keep pace with multinational behemoths’ such as Avral and TEC or otherwise they will be forced out of their business as their market share is depleted. The challenge for LEI is that they have to choose and aggressive growth strategy that will allow them to sustain long-term growth post merger. Lowering their current tax burden must also be included as they consider their financial leverage to sustain growth opportunity. Combined the company’s targets a minimum of 25% increase in revenue within two years. Sustainable growth rates and Weighted Average Cost of Capital (WACC) will also need to be calculated so that the appropriate financials are selected. Integration strategies will also have to be employed along with dealing with cultural differences between the organizations. Due diligence must be employed while they are in the clean room mapping out the integration strategies, the quicker they can combine and use their strengths the easier the solution for the best case for their financials. Situation Analysis Issue and Opportunity Identification The main issue for the combined firm is to determine their financial strategy. Both companies employed different strategies so they must decide which method is best for the combined company. The WACC is one of the main tools that can be used to evaluate the debt equity mix. The new combined company must design new baselines accurately to project their financials. Financial statements and ratio analysis are the key metrics companies use to determine the health of the organization as the firms propel into the future. If the company does not discount the cash flows that both pre-merger entities would receive the future value would be over inflated and cause a gross overestimation. Overestimation would hamper future financial projections. By discounting the cash flows correctly a proper assessment of capital needs and future project valuations will be executed accurately. The burden for Lester is in the accuracy of the valuation model. What is the market price' How much is it and what is the variance' Has Lester taken the necessary steps to mitigate risk' Imperatively, Lester must take the necessary process by evaluating its assets with accuracy to better assess their capital and demand forecasts to offset any future cash flow issues. Lester must also decide how much debt the firm can handle. “Financial leverage is related to the extent a firm relies on debt financing rather than equity. Measures of financial leverage are tools in determining the probability that the firm will default on its debt contracts. The more debt a firm has, the more likely it is the firm will become unable to fulfill its contractual obligations” (Ross, Westerfield, & Jaffe, 2005, p36). Increase in debt financing affects and market value. Increased debt is unattractive to investors. Investors are less likely to invest in companies that have a high debt. Stakeholder Perspectives/Ethical Dilemmas Key stakeholders in the Lester-Shang-wa scenario are the board of directors and the management team of both companies. Obviously the primary interest in both companies is building shareholder wealth and the maximization of profits. The shareholders definitely want a return on their investment. A merger offer has been tendered and accepted. What are the dilemmas' Operationally, they must decide who will be in charge and what operation procedures will be adopted. Important decisions will have to be made by the management team identified to make them. There will ultimately be conflicts concerning cultural issues, what are they and how will they be overcome' Defined policies and procedures must be made to ensure minimization of conflict. Employees are also stakeholders and must be treated fairly and humanely as possible. Fair and equitable compensation must be made to employees dispensed by the merger. The firm’s customers are also stakeholders. Stakeholders are concerned with rising prices and inventory levels on hand. Continuing customer satisfaction must be first concern with the newly merged company. End-State Vision (All) The end state vision for Lester is a newly merged successful entity that will perform all manufacturing and marketing for the entire Asian region. All integration processes should be complete in 2 years. Ideally the new firm should have an optimal debt-equity mix composed of 50% debt and a target of 65% after 2 years. Lester-Shang-wa will target 25% revenue growth in foreign markets after year 2 of the merger. The end-state goal for Lester electronics is to stay independent and not become the target of hostile take over. Lester would like to merge with Shang-wa and increase its revenue by 20-30% in next 3 years, increase its stock price by 20% and become a worldwide industry leader in electronics component supplier and manufacturer. Lester Electronics Inc. is determined to stay in business. Through market research, financial analysis and strategic thinking, LEI will complete a proposal. The proposal is designed to increase market share, expand their international and domestic market while ultimately maximizing shareholder wealth. Bernard Lester, sole proprietor, is committed to the longevity of his firm. His long time friendship with John Lin cannot impair the company’s vision of success. Tough decisions will be made; Lester will have to consider negotiations with other companies. The Lester-Shang-wa exclusive relationship is at stake. If Bernard Lester decides to pursue Shang-wa, does it have enough buying power to remain competitive in a violent arena' The return the stockholders require of the company equates to the current market price experienced by Lester. Obligated to investors Lester is gearing for financial risk associated with financial distress. Alternative Solutions LEI can consider an alternative to merging with Shang-wa or being acquired by TEC. The strength of the exclusive agreement shared by Shang-wa and LEI has proven profitable but warrants reviewing to prevent outside investors from taking over Shang-wa. Currently, the exclusive distributorship agreement allows for LEI to be the sole distributor of Shang-wa’s products in the United States. LEI assume all risk associated with the distribution. The fixed term agreement increases Shang-wa’s market share by making good use of LEI’s customers to reach more retailers. Shang-wa reduces risk associated with entering a foreign market. The agreement also requires LEI to maintain an annual minimum purchase of $1 million in wholesale. Foreign supplier, Shang-wa, has an equal level of significant interest in domestic, LEI. The cross-border distribution agreement has accommodated financial and market value growth. Projected to lose 43% in revenue over the next five years, LEI wants to secure Shang-wa to maximize growth. Strategic alliances and joint ventures are designed to enhance market share for organizations wanting to expand without acquiring a firm. An economic strategy, strategic alliance increases competitive advantage through access to a partner’s resource (Kotelnikov, 2001). To make the deal work companies must be compatible and cohesively seeking time-bound financial growth. Additionally, strategic alliances saves set up cost by using established resources of interested parties. Strategic alliances do not require the involvement of equity and the relationship is loosely structured. Rothenberg (1990), states to strengthen strategic alliances, corporations should have some exchange of minority positions to derive financial interest. This exchange would enable John Lin to maintain sustainable control of his corporation while exploiting the management talent of LEI. Exchange of positions would secure the relationship desired by Bernard Lester while tapping into Shang-wa’s resources and technical information. Exchanging minority positions is only an exchange of shares, risky in that the market dictates the value of the firms. Market value of LEI: (.71 x 42,492) 30,169 compared to Shang-wa’s market value of 10,915. Seeking exchanges the companies will reduce ownership yet increase shareholder wealth. LEI and Shang-wa can expect a mean market share growth of approximately 128%. | | Lester |  | | Shang-wa |  | | |Earnings per share | 0.16| 0.35| 0.71| 0.07 | 0.28 | 0.44 | |% of increase | |-119.44% |-104% | |-300% |-57% | |Mean of % increase | | |-112% | | |-179% | |Combined mean |-145% | | |Subtract Market|128% | | | | | | |Risk (12%) | | | Including the market risk of 12% LEI can expect earning of 1.62 using the current outstanding shares LEI’s market value would be 68,837. Moreover, Shang-wa would have a market value of 25,054 with earnings per share of 1.01 with 24,806 shares outstanding. A joint venture is a long-term commitment of funds, facilities and services to which each company is legally bound (Michigan’s Export Service, 2007). Joint ventures require equity exchange; this sole characteristic proves a high risk for companies seeking a union. Bernard Lester and John Lin have established a bond of trust. Critical to the success of joint ventures both companies must establish reporting timeframes and financial targets. Assume each company exchanged 30% of equity; LEI would have equity of 124,114 while Shang-wa would have equity of 74,001. The project has a high risk and should be evaluated with a higher rate. Consider a market value of 20 with a risk factor of 12; the following compares the rate of equity with and without the joint venture. [pic] [pic] The last alternative to consider is technology licensing. LEI could purchase the license to Shang-wa’s technology. Because intelligence is not restricted, LEI can consider the option. This would leave Shang-wa vulnerable. The exclusive agreement should contain a clause to prevent such actions. The question then becomes how would the license agreement effect Shang-wa’s current state of affairs' This is simply answered by the mount of semi-conductors Shang-wa sells in its native land. Would LEI charge foreign customers more than the current price' How would the exchange rate affect LEI' These questions are beyond the scope of this analysis, recognizing more information is needed The two companies are compatible. They have shared interest in increasing market share and expanding shareholders wealth. Both companies are individually successful and have growth potential. The following analysis looks at the current financial state and the proposed financial state. Moving forward LEI needs to identify investment opportunities the firms elects to take advantage of, the amount of debt the firm chooses to employ and the amount of cash the firm thinks is necessary and appropriate to pay shareholders (Ross, 2005). Lester’s capital structure with the loss of Shang-wa’s partnership puts him financial turmoil. Lester can expect -3.157% ROA. Projecting a loss in revenue LEI’s EBIT of ($11,407 million) would be divided by assets of $361,362 million. With outstanding shares of 42,492, earnings per share would drop from .71 per share to approximately .27 per share (EBIT/outstanding shares). Net income for LEI is 7.38% ($30,010/$406,306) of revenue. The company paid out 69.7% of its net income in dividends. The interest rate on debt is 2.16% and the long-term debt is 2.21% of their assets LEI assets grew 4.16% while sales grew 72.15%. The debt to equity ratio is .5. The sustainable growth rate for LEI with Shang-wa is 28.7%. (0.738) (.303) (1+.5) 1-(0.738 x .303 x 1.5) Net income for Shang-wa is 9.99% of revenue. Shang-wa has no dividends to pay out. The interest rate on debt is 11.94% and the long-term debt is 58.7% of their total assets. Assets grew 23.5% while sales grew 36.2%. The debt to equity ratio is 2.3%. The sustainable growth rate for Shang-wa with LEI is 13%. (.999) (1) (1+3.3) 1-(.999 x 1 x 4.3) Corporations create value for shareholders by earning a return on the invested capital that is above the cost of that capital. Weighted Average Cost of Capital is an expression of that capital. WACC is expressed in percentages Investments should only be made if the return rate is higher than the WACC (Value based management, 2008). Using the WACC calculation [pic] Where: Re = cost of equity Rd = cost of debt E = market value of the firm's equity D = market value of the firm's debt V = E + D E/V = percentage of financing that is equity D/V = percentage of financing that is debt Tc = corporate tax rate The joint venture WACC for Lester is 14.06 and Shang-wa is 13.7. [pic] WACC computed for Joint Ventures [pic] WACC computed for individual companies The sustainable growth rates for both companies exceed the calculated WACC. The merger has potential for success. Finance Alternatives The combined companies will realize significant benefits and opportunities to include the following: Revenue Enhancement: Lester and Shang-wa are hoping that combined company will have 20%-30% increased revenue. Increased revenues may come from marketing gains, strategic benefits, and market power. Lester will become a major player in the industry with increased market share. Cost Reduction, Economies of Vertical Integration The combined company must operate more efficiently than two companies separately. After the merger, Lester would be able to increase capacity and produce more efficiently. This merger will achieve vertical integration where finished product of Lester will go into finished product of Shang-wa. Complementary Resources and Elimination of Inefficient Management Lester and Shang-wa combined will eliminate 25% duplicate positions hence saving operational costs. Lester will make better use of existing resources of Shang-wa to provide the product and distribution channels. How to finance the merger-Alternatives Long-term financing is a major decision for managers at LEI. If Lester’s management team does not have clear understanding of long-term financing concepts, options, and terminologies, it could mean putting the company at risk for failure. |Company |Liabilities |Equity | | |(in millions) |(in millions) | |Shang-wa |106 |36 | |Lester Electronics |91 |162 | Proper mixture of debt and equity financing will help LEI to succeed its goal of acquiring Shang-wa. Before the company moves forward with the merger, Lester must review few long-term alternatives. The first long-term financing alternative is issuing of bonds. The main advantage to bonds is that they are set at a fix price; they will not change with change in economic conditions. One disadvantage of bonds is that “they tend to be risky, if there is a high rate of return; companies sometimes will fail to pay back the bond” (Investopedia about Bonds, 2008). The next alternative to long-term financing is stock financing. Two types of stock financing, common and preferred; both have their advantages and disadvantages. In common stocks, the board of directors decides to payout the dividends. If the dividends are not paid out, then the company can reinvest them. The disadvantage to common stock financing is that the paid out dividends are not tax deductible and the possibility exists for the shareholders to lose ownership control. The advantages to preferred stock are “its existence increases the firm's financial leverage; it is more flexible than debt when it comes to missing an annual payment, and it is useful for corporate restructuring” (Humboldt Education, 2006). The disadvantages to preferred stock are “Its senior status to common stockholders jeopardizes common stockholders' returns, its cost is generally greater than that of debt financing, it is sometimes difficult to sell since dividends can be passed (unpaid) and returns are generally fixed”(Humboldt Education, 2006). The third alternative to long-term financing is leasing. The main advantage to leasing is that it allows businesses that do not have the capital/funds to acquire assets such as buildings and equipment; leasing provides this opportunity at reasonable cost. Because of the low payments, leasing will increase cash flow. Leasing is also considered to be tax deductible, “The IRS does not consider an operating lease or a true lease to be a purchase, but rather a tax-deductible overhead expense. Therefore, you can deduct the lease payments from your corporate income” (Seiber, 2006). Leasing does have its disadvantages such as, no ownership equity “lease payments generally do not establish any equity in your leased equipment” (CCH, 2008). Another disadvantage of leasing is commitment to leasing contract, “you're generally committed to making payments for the entire lease period even if you stop using the property. Most equipment leases are either non-cancelable or impose a stiff penalty for early termination” (CCH, 2008). Debt Financing Debt financing means borrowing money from the lenders and repay it over the life of the loan with interests and it could either be a short-term or a long-term. The good thing about the debt financing is the lenders do not gain the ownership of the business. Equity Financing This is borrowing money from the lenders, but the borrower gives the ownership on the company’s equity to the lender. One good thing is that the borrower does not have to repay a fixed amount at any given time. The major risk on this type of financing is the loss of control on the company’s ownership by the borrower. According to the industry, both financing provides a possible opportunity for raising funds to the borrower. “From the lender's perspective, the debt-to-equity ratio measures the amount of available assets or "cushion" available for repayment of a debt in the case of default. Excessive debt financing may impair your credit rating and your ability to raise more money in the future. Too much debt may be considered overextended and risky and an unsafe investment. In addition, the borrower may be unable to weather unanticipated business downturns, credit shortages, or an interest rate increase if your loan's interest rate floats. Conversely, too much equity financing can indicate that you are not making the most productive use of your capital; the capital is not being used advantageously as leverage for obtaining cash. Too little equity may suggest the owners are not committed to their own business” (N.A, 2006). There needs to be a combination of both, equity and debt. However, it does need to be appropriated correctly, which will ensure more equity than debt. Companies prefer to have 80% equity, and 20%. Another important component the investor needs to focus on is WACC. When considering the calculation of WACC, firms must include the capital sources such as common stock, preferred stock, bonds and other long-term debt. "Broadly speaking, a company’s assets are financed by either debt or equity. WACC is the average of the costs of these sources of financing, each of which is weighted by its respective use in the given situation. By taking a weighted average, we can see how much interest the company has to pay for every dollar it finances. A firm's WACC is the overall required return on the firm as a whole” (N.A, 2006). Common financial restructuring categories involve selling the business, renegotiating loans, and raising additional capital (Elgonemy, 2002). These three mixtures will be beneficial LEI in their merger with Shang-wa. Considering these mixtures, choosing to have ones eggs in one basket is not good policy. Diversification is a much better option in financing. Another tool that could assist LEI in raising the capital to merge with Shang-wa is by extending their bond and stock dates. One very important aspect to increase capital structure is the mitigating of risks involved in company decisions. With the merger of a company, the likelihood of mistakes and misinterpretations is increased. The two companies should create a risk management committee that the companies can be assured that less miscommunication and more efficiency are realized. “The board must ensure there is a reliable process to identify significant risks to corporate business objectives, establish accountability, ensure up-to-date written risk management policies and procedures” (Anson, 2004, p.3). LEI must solicit the input and feedback from their Board of Directors as well. This merger will determine the organizations longevity. The company’s long-term survival involves maximizing their shareholders wealth and keeping their customers satisfied. Shang-wa Merger Evaluation Numbers are extracted and calculated from the pro forma invoice: Average growth profit (as of 12/31/2004) Lester Electronics -- 66,290 Shang-wa -- 42,906 Consolidated -- 41,438 Net Income (after expenses and additional incomes calculated): Lester Electronics -- 30,010 Shang-wa -- 10,921 Earnings per Share: Lester Electronics -- 0.71 Shang-wa -- 0.44 Projections Consolidated growth profit Year 2005: 40,128 Year 2006: 37,765 Risk Assessment and Mitigation Techniques The major risks involved are the risk of Shang-wa being acquired by another organization (hostile takeover) and the risks of the merger not being executed properly. The major risk for LEI is the threat of Shang-wa being acquired by another competitor thus losing 43% of its sales. The company’s value would immediately plummet. Drastic actions would need to be taken since this would have a major affect on the company’s future and shareholder wealth. Reductions in the workforce might be necessary since sales would dramatically reduce. Growth opportunities would decline since the supply chain would be disrupted. No other option exists for LEI and they should settle for nothing less than a full acquisition merger of Shang-wa. Shang-wa’s debt to equity ratio may also cause LEI to be in a less than desirable financial position. The combined company will have one financial report. By having one report will lead to the reduction of risk exposure to currency exchange rates. Companies are susceptible to three main types of exposure: economic exposure, transaction exposure, and translation exposure. Economic exposure is “the extent to which the value of the firm would be affected by unanticipated changes in exchange rates.” Transaction exposure is “the sensitivity of the realized domestic currency values of the firms’ contractual cash flows denominated in foreign currencies to unexpected exchange rate changes” (Ross, 2005). Risk often occurs without success however, it is very rare that success occur without risk. Researching both companies, LEI and Shang-wa, has showed various opportunities in merging with success or failure. A merger can be successful and how to evaluate a merger success rate can be evaluated. The cause of failure in a merger has often been shallow and the measures of success weak for many companies trying to survive the industry. Extensive field research has been gathered in this paper to show the analysis of both companies in question. In reviewing a variety of abstracts, it is a very delicate topic for companies to merger without taking a risk. For example, in one article of a European Management Journal, it was written that, “Mergers and acquisitions are increasingly being used by firms to strengthen and maintain their position in the market place. “(Science Direct) Based on this statement, it is seen as an efficient and fast way to expand into new markets. This has also proven to be a new way to incorporate new technology within each corporation. On the other hand, for every merger that succeeds within the industry, there are dozens that collapse. Determining if a company should consider a merger is strictly on the investigation and research that is found prior to signing the contract. Many failures within mergers have been due to the merging partner not taking the time to thoroughly investigate risks before agreements have been accepted. Each company should look at everything of importance before saying, I do. This includes looking at the company’s under-funded pension plans all the way to researching tax liabilities unforeseen. The company’s must be in agreement of various situations such as tax opinion, buyout programs, aborted bid costs, change/ integration management, and general partners’ terms and conditions. However studies have shown that there are three general focus point of interest. Financial, Specialty and Human Resources Services are all key areas to help make the final merging decision. They have been deemed as the most importance because no two companies are alike. Challenges that are faced from day to day can not be put into a one-size fit all solution. Many times companies’ find a mutual starting point and hire a consulting firm to do the research of the probability of risk and mitigation. There are three stages of probability risk assessment which includes Risk Identification, Risk quantification and Risk evaluation and acceptance. Risk identification would allow you to ask the question, What can go wrong' While taking action of identifying the risk source. Risk Quantification will reference question such as. What is the likelihood it would go wrong' While taking a look at the subjective or objective probabilities. Finally, Risk Evaluation would allow you to think about, What can be done' While looking at your options and trade offs, your action would be to create policy options. Naturally, both companies are facing several situations that offer problems as well as opportunities that need to be evaluated. Both LEI, Inc. and Shang-Wa’s issues are related to the financial history of the corporations, while John Lin wanting to retire, which led into the current problem of other corporations wanting to take over the companies. When looking at the merging of the risks that fits into a low, medium or high category, the gap analysis research data will determine if the decision is based on success or failure. The gap analysis will identify the current risk controls based and ranks the management on a scale. This will shows the changes that are needed to bring about operational excellence and responsibilities by both leaders and employees. This will also show the effectiveness of communication about the merging operational risks. Risk is defined as the potential downside of a decision or action taken. With every action there is a positive or negative risk if a decision to take or don’t take is required. This could be a benefit for the positive and a threat of failure on the negative side when making the decisions. Risks are taken for several reasons such as wanting to become a larger player in the marketplace or acquiring more technology that will maintain top leading position within the industry. No matter the reasons, risk management provides a structure approach to making and analysis decision and minimizing the loss of probability and maximizing the chance of success. If LEI and Shang-Wa decides not to make a decision, the probability of the risk is big. The hostile take over approach by the opposing companies in the industry is waiting to take the two companies by force. After reviewing the various table associated within the merging of the two companies, a gap analysis and risk profile will have to be agreed on by both merging companies. Once the companies have a handle on its risk as well as the strengths and weaknesses, it can make a decision on how to handle the merger with success in focus. Risk often occurs without success however, it is very rare that success occur without risk. Researching both companies, LEI and Shang-Wa, has showed various opportunities in merging with success or failure. A merger can be successful and how to evaluate a merger success rate can be evaluated. The cause of failure in a merger has often been shallow and the measures of success weak for many companies trying to survive the industry. Extensive field research has been gathered in this paper to show the analysis of both companies in question. In reviewing a variety of abstracts, it is a very delicate topic for companies to merger without taking a risk. For example, in one article of a European Management Journal, it was written that, “ Mergers and acquisitions are increasingly being used by firms to strengthen and maintain their position in the market place. “(Science Direct) Based on this statement, it is seen as an efficient and fast way to expand into new markets. This has also proven to be a new way to incorporate new technology within each corporation. On the other hand, for every merger that succeeds within the industry, there are dozens that collapse. Determining if a company should consider a merger is strictly on the investigation and research that is found prior to signing the contract. Many failures within mergers have been due to the merging partner not taking the time to thoroughly investigate risks before agreements have been accepted. Each company should look at everything of importance before saying, I do. This includes looking at the company’s under-funded pension plans all the way to researching tax liabilities unforeseen. The company’s must be in agreement of various situations such as tax opinion, buyout programs, aborted bid costs, change/ integration management, and general partners’ terms and conditions. However studies have shown that there are three general focus point of interest. Financial, Specialty and Human Resources Services are all key areas to help make the final merging decision. They have been deemed as the most importance because no two companies are alike. Challenges that are faced from day to day can not be put into a one-size fit all solution. Many times companies’ find a mutual starting point and hire a consulting firm to do the research of the probability of risk and mitigation. There are three stages of probability risk assessment which includes Risk Identification, Risk quantification and Risk evaluation and acceptance. Risk identification would allow you to ask the question, What can go wrong' While taking action of identifying the risk source. Risk Quantification will reference question such as. What is the likelihood it would go wrong' While taking a look at the subjective or objective probabilities. Finally, Risk Evaluation would allow you to think about, What can be done' While looking at your options and trade offs, your action would be to create policy options. Naturally, both companies are facing several situations that offer problems as well as opportunities that need to be evaluated. Both LEI, Inc. and Shang-Wa’s issues are related to the financial history of the corporations, while John Lin wanting to retire, which led into the current problem of other corporations wanting to take over the companies. When looking at the merging of the risks that fits into a low, medium or high category, the gap analysis research data will determine if the decision is based on success or failure. The gap analysis will identify the current risk controls based and ranks the management on a scale. This will shows the changes that are needed to bring about operational excellence and responsibilities by both leaders and employees. This will also show the effectiveness of communication about the merging operational risks. Risk is defined as the potential downside of a decision or action taken. With every action there is a positive or negative risk if a decision to take or don’t take is required. This could be a benefit for the positive and a threat of failure on the negative side when making the decisions. Risks are taken for several reasons such as wanting to become a larger player in the marketplace or acquiring more technology that will maintain top leading position within the industry. No matter the reasons, risk management provides a structure approach to making and analysis decision and minimizing the loss of probability and maximizing the chance of success. If LEI and Shang-Wa decides not to make a decision, the probability of the risk is big. The hostile take over approach by the opposing companies in the industry is waiting to take the two companies by force. After reviewing the various table associated within the merging of the two companies, a gap analysis and risk profile will have to be agreed on by both merging companies. Once the companies have a handle on its risk as well as the strengths and weaknesses, it can make a decision on how to handle the merger with success in focus. Optimal Solution The optimal solution is for LEI to acquire Shang-wa. The vision is for the combined firm to become a global entity while maintaining control is the most desired option for these two companies. The goal for each firm is to evaluate the redundant operations while buying down debt. Aggressive growth strategies will be implemented to increase financial leverage. After reviewing the alternative solutions and before Lester Electronics Technology (LEI) invests its money on buying Shang-wa, LEI must perform the analysis on the expected return to make sure the company rises above the WACC threshold. This will generate additional free cash flow for LEI that would eventually increase the NPV, thus increasing the stock prices of their shareholders. LEI must find the free cash flow after all the cash expenses, because this is the money that is paid to stockholders. As seen, Debt and Equity financing options have its own advantages and disadvantages. LEI have a considerable amount in cash flow, which includes accounts receivables and equity to acquire Shang-wa. A proper mixture of both will yield the expected results to LEI. This mixture will pay for itself over the period of years, thereby, maximizing the wealth for the LEI shareholders. As seen from the benchmarking exercise, LEI must concentrate on the integration strategy to align its business strategy with Shang-wa’s operations. Implementation Plan A horizontal merger between LEI and SE will allow both companies to have synergies that will be beneficial for the long-term survival of the companies. The merger will allow for increase shareholder value for both companies. The first step to implementing this solution would be an immediate agreement between LEI and SE on a merger before TEC can have the opportunity of a hostile takeover of SE. Due diligence of financial statements, legal requirements, and operations review will have a timeframe of two to four weeks so the board of directors can make win-win decisions. The board of directors must identify hidden liabilities and cash flow implications through the application of financial tools like net present value, rate of return, and the weighted-average capital cost (WACC). In applying WACC, LEI will be able to get an idea of the financial success of the merger. LEI will also use capital asset pricing model (CAPM) to calculate what the relationship between the rates of return as oppose to the possible risk of the investment. The company will purchase the common stock of SE’s stockholders and exchange it for LEI stock. In stock transactions, LEI will share the risk with the selling shareholders SE. LEI can finance the merger through the sales of securities in the form of stock-to-stock transactions or bonds. The company will issue bonds, which are company obligations to repay monies borrowed for an approximate period of five to 10 years for a leveraged buyout. In a merger and acquisition, many revisions will be made before the completion of the merger between LEI and SE, which could take approximately one to two months before the revisions are complete. The company’s shareholders must agree on the merger of the two companies, which is done through voting. The voting process normally takes approximately two to four weeks. During this process LEI will also have to publicized and offer stock and bonds. The Chief Financial Officer (CFO) Anne Lorale would be responsible for this part and should take no longer than 3 months to complete. Once revenues start generating from stock offerings and bonds, LEI will combine these funds with the 50% revenues to acquire SE. By not paying dividends, LEI may use the retained earning to reinvest in the company and increase the stockholders values. The merger of LEI and SE should be completed within a one-year period with the approval of appropriate government agencies. Evaluation of Results Adequate planning and strategy is the foundation to minimize risk associated with mergers. Bernard Lester and John Linn should know exactly what they want to derive from the partnership. Specifically, LEI must have time bound goals that can be tracked weekly to ensure success. Weekly board meetings should be held to update management team and chart success. Identified challenges will be identified and a structured plan will be developed to overcome obstacles. Mentioned earlier, LEI can expect 25% reduction in operating expenses by elimination duplicated administrative task and management within two weeks of the merger. An estimated savings of $12,276 will be realized. If the savings is not realized within two weeks, management would need to identify what obstacles are preventing the established timeline. Additionally, LEI must have a plan to compensate for the losses. [pic] Merging with a cross-border company has significantly risks, among those issues are; friction among cultures, lagging technology and a reluctance to comply with contractual obligations. Moreover, LEI will assume all risk. Pre-merger planning is essential to profit gains once the merger has been completed. Applying the expected growth rate of 25% for the first year revenues and the 25% administrative savings yields the following projected income. [pic] Conclusion (All) After performing this exercise it appears obvious that a company must have a financial analyst worth his or her salt to give a project of this magnitude the due diligence. Basic elements of financial planning are essential to the success of a proposal. Identifying the firm’s financial goal in relationship to their current financial statement reveals capital structure needed. Analyzing income statements and the amount of debt the firm currently holds are elements needed to factor a sound plan. Creating value and satisfying shareholders is the responsibility of the firm. Investment proposals, expansions, and growth add to the success only if the ventures increase financial wealth. Consideration of all financial options must be put on the table to find the best solution. 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