Page 55 of 131 The interest coverage ratio measures Tican’s ability to meet their on-going net financial ex-penses by estimating how many times the company can cover their net interest exex-penses through their operating income. This ability has been deteriorating rapidly for Tican in the last four years and is approaching an alarming situation in which Tican’s operational income is barely enough to cover their financial expenses. The peer group enhances the risk through indications of a much higher level of interest-coverage ratio. The formula applied for the EBIT interest cover is:
EBIT interest coverage = EBIT
Net financial expenses
An analysis on the credit rating of Tican has been attached appendix 16. The analysis provid-ed an insight in the overall risk aspects of Tican and concludprovid-ed a rating of ‘BB’ basprovid-ed on rankings from the credit rating agencies Standard & Poors’ and Moody’s. Overall, the analy-sis did not contribute with anything not already captured in the short-term and long-term li-quidity analysis.
In summary, the long-term liquidity risk of Tican is heavily influenced by a declining ability to pay their on-going financial expenses. This largest effect was found to be the decline in the EBIT interest coverage ratio, which is biased by the declining profit margin of Tican, ulti-mately driving down the EBIT while leaving the financial expenses untouched.
Ultimately, looking at the internal risk of Tican, Tican is found to have moderate to high li-quidity risk in both the long-term and short-term when benchmarked with the chosen peer group. However, based on the highly leveraged Danish Crown the company does not appear to be significantly more risky. Thus the final recommendation is that Tican may impose fi-nancial risks in terms of liquidity shortage, however given the risk exposure of Tican does not differ much from Danish Crown a potential merger is not impossible.
Page 56 of 131 equal, cause a shock to the underlying cost of capital in the host company due to a larger re-quirement from debt owners.
The capital structure of Danish Crown, based on the reformulated balance sheets, equates to 32% equity and 68% debt, whereas Tican has an average of 55% equity and 45% debt. Disre-garding the financing of the merger, including various up-front investments, the event would cause Danish Crown to decrease their financial leverage. All else equal, this would impose a higher cost of capital ultimately making more difficult for Danish Crown to establish positive NPV projects that satisfy their investors (Koller et al., 2010, p. 116).
Figure 7-6: Capital structure of Danish Crown and Tican based on analytical statements
Danish Crown does not express a target capital structure; rather refer to a target financial gearing of a 3.5 NIBD to EBITDA ratio (Danish Crown, 2014a). In 2014, the NIBD to EBITDA was 3.71 for Danish Crown, implying a higher leverage than intended. The pro-posed merger is likely to further increase the leverage through up-front investments and trans-ferred debt from Tican as the financial leverage of Tican is slightly higher than Danish Crown as seen below. The impact of the merger on the debt structure is analysed in section 11.5.2 when the implications are outlined.
Table 7-7: Target NIBD/EBITDA and estimated leverage for Danish Crown, Tican and ap-propriate peers
NIBD/EBITDA 2011 2012 2013 2014
Target 3.50 3.50 3.50 3.50
Danish Crown 3.76 3.71 3.65 3.71
Tican 1.24 2.01 2.3 3.83
Peer group average 1.33 1.39 1.18 1.3
70% 69% 68% 68%
30% 31% 32% 32%
2011 2012 2013 2014
Danish Crown
Debt Equity
40% 44% 43% 53%
60% 56% 57% 47%
2011 2012 2013 2014
Tican
Debt Equity
Page 57 of 131
8 SWOT analysis
The first research areas have been analysed through a strategical and financial analysis, for which a SWOT analysis is applied to capture and summarize the key results.
Table 8-1 includes a summary of the key findings and identifies them as Strengths, Weak-nesses, Opportunities or Threats (Petersen & Plenborg, 2012, p.192). The weakness and threats of Tican should receive special attention due to the complications on the future pro-spects and attractiveness of the business case. Correspondingly, the Strengths and Opportuni-ties should emphasize the attractive aspects of the company as a potential partner for Danish Crown.
Table 8-1: SWOT summary of key factors influencing the position and attractiveness of Tican
Overall, the outlook for Tican, disregarding the proposed merger, portrays high short term risks both in terms of liquidity and growth potential. Tican has recently had to draw on equity reserves to deliver competitive supplementary payments to their cooperative members. Should this pattern continue the company will ultimately face short- and long term solvency risks as
Weaknesses
● ●
● ● High short- and long term liquidity risk
● ●
● ●
● ●
Threats
● ●
● ●
● ●
● ●
Cooperative ownership structure ensures supply of raw material and opportunity for capacity planning and sharing of best practice
Strenghts Internal factors
Cooperative members expect supplementary payments at market level, causing Tican to draw on equity in 2013/14
Good asset turnover rate
Decreasing profit margins due to drop in prices and limited potential to decrease cost
Brands and private label products considered high quality
Operations cover the majority of the value chain increasing earnings potential and ensuring high utilisation of products
Sensitive to external shocks due to size and liquidity but also lack of diversification in product portfolio
Good relationships with strong customers in key markets, e.g. Aldi, Lidl and Netto (UK)
Size of operations lacks economies of scale and production cost per kg is high
Opportunities External factors
Growth in core markets with high quality products that can be leveraged, such as in China and Japan with GDP and consumer demand driving the growth rate
Increasing complexity in the industry due to political requirements related to environment and animal welfare
Technology investments could potentially lower production cost
Excess supply in the European market from lost export to Russia causing prices to drop
Competition is fierce and despite product differentiation, degree of substitution is high High demand for premium and discount products
increasing, especially in core markets such as UK
High degree of customer bargaining power with focus on price
Barriers to entry moderately high, especially in the fresh meat industry
Page 58 of 131 appointed in the financial analysis and if supplementary payments at market level cannot be sustained, cooperative members would leave Tican. Increasing production costs and fierce competition driving down prices disables Tican in the competitive environment as it lacks the economies of scale to compete with the larger slaughterhouses. The current size of operations is unlikely to garner sufficient scale economies and growth will be hard to achieve given fi-nancial and capacity constraints as recognised by Tican self since the initial search for inves-tors were prompted by the need to grow to be able to compete (Bang, 2014).
While Tican face substantial risk of liquidation if the company does not improve their opera-tional margins, the company maintains significant strengths that may potentially offset the operational risks for Danish Crown. The financial analysis found that Tican had an asset turn-over rate substantially higher than the market average, while also maintaining a very high return on invested capital prior to the recent crisis. The product portfolio of Tican would fit the current portfolio of Danish Crown greatly with a surge of new products of high quality and degree of integration in the value chain.
Furthermore, Tican has established critical relationships with retail customers such as Aldi, Lidl and from 2015 forth, Netto in the UK, which may potentially help the company come through the recent period of low margins unscathed.
External factors are both positive and negative as seen above in Threats and Opportunities.
The same market conditions can be said to affect Danish Crown, however the larger slaugh-terhouse is considerably more prepared and maintains better bargaining positions towards their largest customers. Furthermore, Danish Crown operates at higher margins thus allowing more respite towards geopolitical shocks such as the Russian embargo.
Overall, the financial and strategical analysis has found that several of the negative factors listed in the Threats and Weaknesses could be diminished. Danish Crown’s ownership of Ti-can could not only decrease the liquidity risk, but also offer benefits related to economies of scale. The SWOT analysis concludes a decent foundation for the upcoming business case, however emphasises that significant risks and threats could impact Tican. Further analysis will be undertaken to analyse the exact impact on risk for Danish Crown if the companies would merge.
Page 59 of 131
9 Tican stand-alone valuation
The third part of this thesis is the valuation of the stand-alone companies as well as the busi-ness case. This section analyses the stand-alone value of Tican, which is based on the perspec-tive of the cooperaperspec-tive members of Danish Crown. In other words, this section will discount the free cash flows of Tican with the WACC of Danish Crown, as this is the best measure of the required return that Danish Crown would require, if they should merge with Tican. As the WACC in Danish Crown of 6.40% is lower than the WACC of Tican estimated below of 9.38%, this will generally result in a more positive valuation than Tican would have obtained without the financial support of Danish Crown.
9.1 Forecasting the free cash flows