1. Does Ford have too much cash? For this question, we need some measurement of liquidity to compare the turnover rate and reservation of cash for Ford, GM, Chrysler and compare those measurements in different years to see if Ford have too much liquidity which means too much cash. Quick ratio is liquidity measurement which is a variant of the current ratio. It focuses on quick assets, which are those assets likely to be converted to cash within a relatively short period of time.
Quick ratio= (cash+ marketable securities+ accounts receivables)/current liabilities For this question we use quick ratio as our measurement for the solvency ability to know the solvency condition in the industry. In Attach1, we see that in 1999 Ford has quick ratio of 0. 13 which is the highest value among the three. And compared with the previous years, Ford still has relatively high quick ratio. Both horizontally and vertically, Ford has relatively high quick ratio, leading to our point that Ford does have too much cash.
On the other hand, Ford seems to have a good amount of money in reserve, comparing its cash reserve with GM’s and DaimlerChrysler’s cash and equivalents. In year 1999, Ford had $25,173 of cash and equivalents while GM had $12,140 and DaimlerChrysler $9,163. 2. How does the VEP work? The VEP include there options for different kinds of shareholders: 1, Shareholders who prefer cash can get one new Ford share for one old share plus $20 per share in cash. 2, Shareholders who prefer more shares in the company can get one new share plus Ford common stocks worth $20 for one old share.
3, Those passive investors who want to keep certain percentage interest in the company also can get one new share for one old share, but they also can choose the combination worth $20 of common stock shares and cash. 4, As part of the VEP, Ford would also distribute its ownership of Visteon to shareholders on a pro rata basis. Market capitalization of Visteon is approximately $2 billion. 3. What are the alternatives for distributing cash? 1, Ford can pay dividend to shareholders, despite dividend is a tax inefficient way to reward shareholder.
But Ford family strongly prefers this option because they don’t want to sell their Class B share, leading to lose control power. 2, Ford can repurchase stock shares on the open market. 4. What a problem is the VEP plan designed to solve? The main problem Ford wants to use VEP to save is that: the company has lots of cash reservation and substantial efficiency and development, but the market seems to undervalue them. So Ford tried to use 10 million to reward its shareholders to signal their confidence in the company’s outlook.
Those shareholders of common shares urge Ford to use repurchasing way to reward them. However, the Ford family preferred the cash dividend way, because the family doesn’t want to sell their Class B stock which brings them the control power. So Ford management team came up with VEP to reconcile the conflict between the two parties on the cash distribution issue. On the other hand, Ford management thought its stocks have been undervalued by the market. So they decided to use recapitalization to highlight Ford’s cash reserves and cash flow generating capacity, which will help stock price to go up.
5. As a shareholder, how would you approve the VEP? Would you elect cash or shares? As we can see that VEP came up with three options for shareholders to choose, so for different kinds of shareholders the effect can be very different. For individual shareholders, no matter they choose the cash option or the share option, they still have to pay tax based on $20 capital gain (if they sell extra shares immediately). The shareholders choose cash prefer the short liquidity of cash, they may not care about their ownership in the company.
However, those shareholders choose more shares can’t get any more voting power in the company, despite they own more percentage of shares. Because Ford can keep their Class B shares, so does their 40% voting power. It’s totally not fair for other common shareholders. And we all know that if a company still has many positive NPV projects to invest, it never pay so much cash back to shareholders. It’s obvious that Ford would no longer spend heavily on acquisitions and its long-term development can be limited.
So why should those common shareholder get the extra shares instead of cash in a company with limit growth power? Why not put the money in other more promising companies. If I am the common shareholder, I will get the cash invest somewhere else. At least I can have the basic voting power as other owners. For passive shareholders which are mainly those institutional investors like pension fund and mutual fund, they expect a steady and long-term reward from Ford stock.
They want to see the long-term health development of the company and also want to effect the management decision to ensure their benefit in the company. But Ford family press the executive team to take VEP which can reward the family common shares without sell Class B shares. So by taking extra common shares, passive investors can’t get any voting power, because Ford family still keeps 40% power. Passive investors can’t make sure their long-term benefit in the company. So finally, if they find better investment somewhere else, they will get the $20 per share and run away.