Toyota Recall

Introduction In May of 2006, The Toyota Motor Corporation initiated a recall of nearly one million vehicles around the world to replace faulty parts that could cause drivers to lose control of the steering wheel. The recall affected vehicles across 10 models, including the popular Prius. The intermediate shafts and sliding yokes in the recalled cars lacked the necessary strength and could distort or crack under strong pressure, causing drivers to lose control of the steering wheel, according to Toyota (ConsumerAffairs.Com). Owners of these vehicles were allowed to have these defects repaired at the cost of Toyota and required approximately on hour to complete (News.com.au). BODY

Dealing with any recall is never a positive situation and our estimates are this particular recall will cost Toyota in excess of $925 million dollars. Toyota will most likely borrow from its future earnings at nominal discount rates. However, given Toyota's positioning as the world's eight largest and most profitable automobile company they will be able to take this problem in stride. The biggest danger associated with the recall will not be short term capitalization. To maintain its impressive rate of growth Toyota will have to conduct effective public relations damage control in an attempt to safeguard its stellar reputation as a manufacturer of highly reliable automobiles.

The Toyota Motor Corporation has been around for greater part of last century. It really started to make a strong entry in the North American and European car markets in the mid 1970's. Their successful product offering combining low prices and high reliability have been huge factors in its successful profitable market-share growth ever since. Toyota Motor Corporation is a Japanese multinational corporation and the world's second largest automaker making automobiles, trucks, buses and robots and providing financial services.

Based in Toyota, Aichi, Japan, the company boasted a total vehicle production of 9.018 million vehicles in 2006. It is also the world's eighth largest company with revenue of $179 billion as of 2006. Toyota is the world's most profitable automaker Toyota sells its vehicles in Japan, North America, Europe and Asia. The company was founded in 1933 and is based in Toyota City, Japan." (Toyota) Toyota is increasingly becoming a more dangerous competitive threat to European and North American car manufacturers. During the 1970's their North American product line focused mainly on economy cars and pickup trucks.

Today they are present in practically every key American automotive demographic with competing products. They also entered what was once the domain of the European luxury sedan manufacturers by introducing its line of luxury "Lexus" automobiles. Although American and European car manufacturers have improved their product reliability and they still have not managed to catch up with Toyota (Toyota). Japanese and European automobile manufacturers benefit from a higher degree of degree of intra-governmental cooperation than their American counterparts. Many of the worker benefits provided by US auto manufacturers are provided to European and Japanese auto workers by their respective governments.

Furthermore, Japanese and European corporations are more heavily subsidized than in North America. This allows them to operate at a higher rate of return and gives them access to more expansion and contingency capital which in situation like the aforementioned Toyota recall can come in quite handy (Toyota). The costs of Japanese government subsidies to Toyota are passed onto Japanese and European citizens via higher income and sales taxes. This diminishes their purchasing power and negatively affects the size of their automobile markets. Despite some of its drawbacks, this system has given Toyota a significant competitive advantage abroad which it has been slowly building upon over the course of the past 50 years (Toyota).

Toyota has two primary methods with many underlying opportunities in each to finance the recall. The can utilize debt or equity financing. If they choose debt financing, they will need to generate capitol for the recall by borrowing the funds. These funds will likely be obtained from a bank or the owner. It is important to note they could seek help from the government given the size of the recall amount or even the general public via bond but these would be unlikely scenarios given there current cash position. Essentially, debt financing offers Toyota loan opportunities to be considered a temporary investment with a stated return to the lenders.

While the term may be long or short, and potentially rolled over, it is important to note this avenue would prove less costly then equity financing. Given the history and habit, if you will, of Toyota's recall history, a short term loan rolled over as necessary would be realistic. General capitol for the recall can be raised by providing ownership of the company through equity financing. The advantage of this is essentially, the financing is forever, unless of course Toyota chose to buy back the stock.

The greatest flexible advantage to Toyota with equity financing is of course the payback period is endless. Some disadvantages to equity funding for Toyota is the higher cost versus debt financing and the clear fact they cannot determine the return. The capitol appreciation of the stock and dividends, if paid, cannot be guaranteed, thus higher risk is a factor worthy of careful consideration. Although borrowing against future earnings is the most financially sound option available to solve the recall dilemma, Toyota can choose other somewhat viable options. Toyota could repeal some if its sales incentive programs thereby raising the price on some of their automobiles in an attempt to generate cash in the short-term.

The inherent problem with this is it would have a negative effect on overall sales in the long term substantially reducing market-share. In the United States, Toyota Motor Corporation's stock is offered in the form of American Depositary Receipts (ADRs) on the New York Stock Exchange (NYSE). The ADRs are traded under the symbol TM on the NYSE and are based on Toyota shares traded in Japan. Each ADR represents two shares of Toyota common stock" (Toyota). Toyota could increase its capitalization by selling some of its stock off of any of the international markets. The drawback of such a strategy would be reduced leveraged control over any of its international subdivisions.

Toyota could also request, however unlikely, that the Japanese government invest or provide Toyota an industrialization grant. The money could be moved around eventually find its way towards paying for the recent recall. The best course of action for Toyota to pay for this recall would be to find a balance between debt and equity financing.

Toyota's cash position would be maintained in ensuring short term loans with rollover options coupled with a modest equity offering and suspension of dividends on stock for 12 months. In 12-24 months, Toyota should be able to purchase back some of the equity generated through modest stock sales. In doing so, Toyota can ensure they do not finance current operations with long-term debt and the capitol appreciation of the stock remains is the best possible environment for continued growth. CONCLUSION

Dealing with any recall is never a positive situation and our estimates are this particular recall will cost Toyota in excess of $925 million dollars. Toyota will most likely borrow from its future earnings at nominal discount rates. However, given Toyota's positioning as the world's eight largest and most profitable automobile company they will be able to take this problem in stride. A careful executed balance coupled with and firm understanding of the benefits and disadvantage of debt and equity financing will go far in ensuring the financial position of Toyota remains strong for many years to come despite the setback of this recall.

Works Cited Consumer Affairs. Massive Toyota Recall Affects Nearly One Million. May 31, 2006. Available at: http://www.consumeraffairs.com/recalls04/2006/toyota_worldwide.html Damodaran, Aswath. Finding the Right Financing Mix: The Capital Structure Decision. Stern School of Business, 2007. TUI Materials.

News. Steering defect triggers Toyota recall. May 30, 2006. Available at: http://www.news. com.au/business/story/0,10166,19311059-31037,00.html Toyota. About Us. Available At: http://www.toyota.com/about/operations/na- affiliates/index.html Toyota.com, 2007

Yahoo Finance. Toyota. Available at: http://finance.yahoo.com/q/ks?s=TM Yahoo.com, 2007