This memo will examine Timken Company’s decision to acquire Torrington by analyzing the stand-alone worth of Torrington, the synergies of this acquisition and the result on Timken’s investment grading. Getting Torrington seems to fit well with Timken’s long term growing method. Torrington and Timken share 80% of their consumers however just overlap 5% in their item offerings. Not just would this allow clients to make Timken a one stop purchase much of their needs but likewise according to a survey done by the University of Michigan, business that were integrated were more rewarding than those who concentrated on just one excellent.
Obtaining Torrington would assist in their efforts of ending up being more worldwide by increasing their presence in the global bearing market from 7% to 11%, making the two business combined the 3rd largest producer of bearings on the planet. Lastly, the acquisition of Torrington might provide Timken a predicted yearly cost savings of 80 million dollars by the end of 2007, which are the anticipated synergies.
Per calculation, Torrington’s stand-alone appraisal is 192.789 million dollars (see Exhibition X), with the assumption that NWC equates to 13.5% of sales. All of the numbers in this Exhibit are from the accessories of Timken case. EBIT, capital expense, net sales, and devaluation cost are from Exhibit 5 of the Timken case. Tax rate is computed based upon Timken Corporate Earnings Statements from Display 1 of the Timken case. For the WACC estimation, expense of equity is computed the presumption of a danger premium of 6.5%, considering that the marketplace premium reduced gradually from 7.
1% to 4.7% and it is affordable to assume that the marketplace premium would be close to 6% by 2002. Danger free rate and cost of debt is from Display 9 of the Timken case. With the assumption that Torrington and Timken resemble each other, beta is drawn from Exhibit 8 of the Timken case. Then, the weights of equity and debt are determined based upon Timken’s balance sheet.
For the years after 2007, a perpetual growth rate of 5% is assumed according to the WACC value of about 7%. All of the cash flows are discounted back to the year of 2002 in the calculation of NPV value. With the annual cost savings of $80 from 2003 to 2007 and the integration cost of total $130, Timken’s new NPV is calculated to be -$970.42. There is the possibility that Timken can lose its BBB investment-grade rating. This is due to Timken taking on the $800 million in debt it needs to purchase Torrington. The change in the company’s debt composition will change ratios such as debt-to-capital which is used to determine the investment-grade rating. Compared to other industrial firms, Timken shows relatively high sales numbers ($279.4 million) as well EBITDA figures ($275.7 million). According to table 3 (p. 4), only three ratios will change as taking on the $800 million in debt.
The first one is EBIT Interest Coverage Ratio, which drops from 2.63 to 0.90 and investment-rating scale falls from BBB to B. The second ratio is EBITDA Interest Coverage Ratio, which drops from 4.3 to 3.14 and investment-rating scale falls from BBB to B. The third one is Total Debt/Capital Ratio, which increases from 43 percent to 67 percent and drives the rating from BB to B. In conclusion, the $800 million debt has a negative impact on Timken, since it lowers company’s investment-rating scale. If Timken decides to go forward with the acquisition, Timken should structure the deal with both cash and stock-for-stock offering. Ingersoll-Rand is likely to want a cash deal from this acquisition not only because of the riskiness and vulnerability of the stock market but also Ingersoll-Rand’s current desire to allocate capital to higher potential growth and higher return service businesses.
However, it would be unprofitable for Timken to raise more than 800 million dollars solely by debt due to the expected dramatic downgrading of Timken’s interest rating, which is inconsistent with Timken’s current business priority. Thus, in order to provide Ingersoll-Rand with funding for new investments and maintain a reasonable debt rating for Timken, it is safer for Timken to structure the deal with both cash and stocks. In conclusion, Torrington fits in Timken’s business structure, and it is profitable for Timken to acquire Torrington as long as it offers a deal with the correct mixture of cash and stocks. Thank you for your time. If you have any questions, please feel free to contact us.