Q1. Does Ford have too much cash? Why did Ford choose to accumulate so much cash? And why is Ford distributing a large amount of cash now? (1)
To check whether Ford has too much cash, we have to calculate the cash ratio. But the data we have is not complete, we cannot find out that ratio. Instead, we calculate the cash turnover ratio to check whether Ford has excess cash. Cash turnover ratio = sales/ average cash, and the following is the ratio from different company | Ford| GM| Chrylser| Sales| 162,558| 176,558| 151,035| Average cash| 25,064| 17,069| 15,580|
Cash turnover ratio| 6. 5| 10. 3| 9. 6| From above table, we can see Ford’s cash turnover ratio is lower than others, which means Ford has excess cash. (2) the reason to hold cash:
- Normally, they accumulate cash for the uncertainty associated with its cash flow.
- Fulfill the ability to compensation.
- The economy cycle in 1999 to 2000 was quite well. (3)
Ford believes that its stock is undervalued, limiting, among other things, the Company’s ability to use its stock for acquisitions or to attract, retain or incentivize employees. Ford believes the recapitalization will highlight its cash reserves and cash flow generating capacity, which have not been adequately reflected its stock price. In addition, they want to fulfill the Ford family’s liquidity needs and also reduced the agency cost.
Q2. How does the Value Enhancement Plan (VEP) really work? Are there alternatives for distributing cash? (1)
Ford would give back $10 billion of cash to shareholders, and give one new share and the choice of receiving $20 either in cash or additional new Ford common shares, or a combination of cash and new Ford common stock with an aggregate value of $20. Ford also announced that give the unit of Visteon Corp. to shareholders. (2) other alternatives:
- Reduce the debt level
- Cash dividend
- Share repurchase
Q3. What problem is the VEP designed to solve?
The VEP brought Ford $19 billion in revenues. Besides that, Dividends on new Ford shares would be reduced such that shareholders who elected stock only would get about the same dividend payment on their package of new shares as the quarterly $0. 50 per share. The VEP, therefore, can solve Ford family’s need in cash and doesn’t worry lose control at the same time.
Also, VEP could avoid the share repurchase’ problem, for instate, it needs more time to execute the share repurchase, and has more limitations and regulations. Moreover, Ford agreed to keep Visteon workers on its payroll, guaranteeing wages and benefits under the current contract and shareholders receiving the cash distribution would suffer a “meaningful reduction” in their percentage ownership of the company, they would be taxed on that amount as a capital gain resulting to decreasing retaining can lower agency cost. Last, the VEP offers all shareholders three options: the choice of stock, the choice of cash and combination cash and stock. Shareholders can only choose one of them. It’s helpful to not only all shareholders but Ford family’s need.
Q4. Are there any benefits of the VEP?
Thanks to the VEP, the control ability of Ford family became stronger and stronger because it can solve Ford family’s need in cash. In addition, the VEP offered shareholders $20, where the relative cash/stock proportions would be chosen to allow shareholders to maintain the same percentage interest of all Ford stockholders, which means that the VEP would be more closely align the interest of all Ford stockholders. Also, stockholder liquidity could be achieved as effectively through the VEP. For example, at a pre-distribution share price of $60 for existing common shares, new Ford shares would be worth $40. Stockholders, thus, would have the choice to receive $20 of cash or half a share of new Ford common.
Q5. As a shareholder, how would you approve the VEP? Would you elect cash or shares?
Approval of VEP depends on how many shares you hold at the moment, are you planning to sell your investments or do you want to take a calculated risk and take greater level of interest on Ford. As a minority shareholder we would approve VEP, as voting rights are very low anyway.
As a major shareholder there might be more consideration to be done about the plan. We can find two different aspects on to elect cash or shares. Firstly, if we would be minority shareholder, we would elect cash option because it is about 40% of the current market value. Also, this would not increase our stake in the company and would keep option open for our outstanding shares to gain value overtime as the company’s stock have been undervalued. Secondly, if there would not be any need for cash and we would like to higher our stake on the company, thus getting more shares. Moreover, if the cash at that moment would not be crucial to our liquidity, getting more shares and betting on market value gains makes sense.
Q6. What should Ford do if cash elections amount to less than $10 billion?
One option for Ford to do is to repurchase shares from the market with excess cash. Although this option would lower the stock market price of the shares and would most certainly be opposed by shareholders. Ford could also spend excess cash on acquisitions to show that the company is keen to be the leader of the auto industry.
These options have some issues, such as the limited number of acquisitions available in the industry. Moreover, this might not in the long run lessen Ford’s cash reserves. Another option is to Ford family to take cash instead of common shares if there is less than 10 billion us$ cash elected. The family’s voting power comes from the Class-B shares, thus taking cash instead of common shares does not affect significantly on the family’s position. Moreover, this would give liquidity for the family and they can purchase more shares later on if they find it necessary.