Cooper Industries, Inc. Case Solution
In 1972, Robert Cizik, the Vice president of Cooper industries, was considering an acquisition opportunity of the Nicholson File Company. The company was primarily involved in the business of big engines and compressors used by the extraction industry of oil and gas. Because of heavy reliance on sales from the oil and gas extraction; the company was not attractive to investors due to its high risk and high volatile earning due to cyclical nature if the extraction industry. (Piper, 2002). The company acquired three companies, but still it was unable to reduce its high earnings volatility and business risk.
The company adopted a new acquisition strategy; whereby, the focus of acquisition was on the leading companies in their corresponding market segments. Despite of its acquisitions; the company got failed in its merger with the Nicholson Company three years ago. There was an opportunity for Cooper to acquire Nicholson by obtaining a major controlling interest in the company. Two other companies, including: H.K Porter and VLN Corporation had also call off their acquisition plans with Nicholson. The vice president was concerned about whether to go for acquiring a small company, if yes, then what should be the value of such acquisition by the Cooper Industries.
Cooper Industries had been a leading manufacturer of the big compressors and engines for the extraction industry of oil and gas. The firms’ sales were heavily dependent on the oil and gas extraction industry. Due to its reliance on the sector; the company was exposed to huge cyclical business risk, which resulted in the high volatility in the company’s earnings. To cope up with high business and to become an attractive opportunity for investors to invest in; the company went for diversification by acquiring 3 companies, but it wasn’t able to reduce the business risk. Afterwards, in 1966, the company adopted a new acquisition strategy, whereby the leading companies in their respective segments were to be focused on by the Cooper industries. The Vice president was considering acquiring the Nicholson Company but he needed to be sure of Nicolson, being a viable opportunity and in determining the offer price for acquiring Nicholson and its major controlling interest. The key issues faced by the company, included:
i.High Business Risk
Cooper Industries relied on the oil and gas extraction industry, which remained uncertain due to its cyclical nature of the business. The heavy reliance on the extraction industry led the company to be prone to the high business risk
ii.High Earnings Volatility
The investors were reluctant to invest in the Cooper Industries as their earning had remained significantly volatile due to its reliance on the cyclical oil and gas extraction industry, despite achieving a stable sale sand above average earnings.
iii.Poor Acquisition Strategy
Prior to 1966’s acquisition strategy; the company acquired weak companies with meagre product lines. The weak acquisition strategy couldn’t remove the business risk and earnings volatility of Cooper Industries, and it reduced the company’s profitability, a minor loss was reported by the company in 1967.
Cooper Industries was incorporated in 1919. The product line of the company included big compressors and machinery for exploring oil and gas. The company’s target market included the oil & gas extraction sector. Till mid-1950s, the company had become one of the leading supplies of machinery and compressors for the extraction industry. Although, the company was generating good sales and above average earnings, but it had lost its position as a viable investment opportunity by the investors, due to high business risk and high earnings volatility, as a result of heavy reliance on the target industry with a cyclical nature. To cope up with such risks, the company went for diversification by the acquisition of different businesses, which are as under:
Acquisitions by Cooper Industries
The company acquired 4 companies during the period of 159-1966, which included
- A company, which supplied the portable power tools for the industry.
- A company that manufactured small air and process compressors for the industrial sector.
- A company, which manufactured small compressors and pumps for the operations of oil field., and
- A tire changing tools manufacturer for the automobile market.
In 1969, the company acquired the Crescent Niagara Corporation, which used to supply wrenches, screw drivers and pliers of good quality. Despite of these acquisitions, the company could not diversify its business risk and high volatility in earnings. It was because the company acquired companies with poor product quality, which reduced its profitability. This situation led the company to formulate a new acquisition strategy in 1966, which aimed to the acquisition of leading business operating in stable industries with their respective segments of the market.
The Cooper Industries had an acquisition alternative of acquiring the controlling interest of Nicholson File Company. The company was the largest manufacturer of hand tools. The Nicholson Company had remained low in its profitability, with huge costs, low growth rate and undervalued stock. This led to a question about its viability as an investment alternative. The Cooper industries found it as an attractive because of its strong competitive strengths, which are as below
- Nicholson had been the largest manufacturer of hand tools in the domestic market, leading the market through its two main products, i.e. files and rasps.
- The company had grabbed a 50% market share through its two main product categories.
- Along with 50% market share for files and rasps, the company owned a 9% market share of the saw blades and hand saws market, i.e. worth of 200 million.
- The strongest part of the Nicholson Company was its distribution systems, which Cooper Industries, could use in reaching more markets.
- The Nicholson Company had a wide global presence i.e. its products were sold to 137 countries with strong distribution channel of 140 local sales representatives.
- The overall strengths of the company assumed to provide an annual growth of 6-7% in the future.
- The Nicholson Company was maintaining a sales growth rate of 2%, which was very low as compared to the industry sales growth of 6%.
- The profit margins of the company had reduced to one third as compared to other players of the hand tool industry.
- The Nicholson Company’s stock was undervalued and trading at a lower market value of $44 as compared to its book value of $51.25.
- The investors were reluctant to pay high for the Nicholson’s stock as its P/E ratio of 10-14 times, lower than the industry P/E ratio of 14-17 times for other players.
- The company had low sales, profitability and conservative financial policies leading it invite acquisitions.
Offers to Nicholson – Bargaining Position
Apart from the Cooper’s interest in acquisition of Nicholson File Company, there are other companies, such as H.K porter and VLN Corporation, which had proposed their offers for the acquisition of Nicholson Company. The different offers and their bargaining positions are explained as under:
H.K Porter’s Offer & Bargaining Position
- K porter was a conglomerate with a wide range of product portfolio i.e. non- ferrous metals, electrical equipment, rubber products and tools. In 1967, the company had already acquired 44000 shares of the Nicholson Company, at premium of $12 and price of $42. Additionally, the Porter offered a per share price of $50 in cash to the Cooper industries for the 177000 stocks out of the 584000. The Porter aimed to support the merger between the Cooper Industries and Nicholson File Company, only if they received Cooper’s securities in a tax free exchange rate. Cooper can take the Porter’s offer as the intrinsic value derived from our calculations is $93.6, which is greater than the $50 offered by Porter…………………….
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