Advanced Corporate Finance: Tesco PLC

ADVANCED CORPORATE FINANCE: TESCO PLC
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Table of Contents TOC \o "1-3" \h \z \u Executive Summary PAGEREF _Toc85810406 \h 3Introduction PAGEREF _Toc85810407 \h 4Tesco SWOT Analysis PAGEREF _Toc85810408 \h 4i.Strengths PAGEREF _Toc85810409 \h 4ii.Weaknesses PAGEREF _Toc85810410 \h 5iii.Opportunities PAGEREF _Toc85810411 \h 5iv.Threats PAGEREF _Toc85810412 \h 5Potential and Realistic M&A Target PAGEREF _Toc85810413 \h 5ASDA Valuation PAGEREF _Toc85810414 \h 6How to Finance the Acquisition PAGEREF _Toc85810415 \h 7Reasonable Acquisition Price PAGEREF _Toc85810416 \h 8Conclusion PAGEREF _Toc85810417 \h 9Bibliography PAGEREF _Toc85810418 \h 11Appendix PAGEREF _Toc85810419 \h 12ASDA’s Reasonable Acquisition Price as at 2019 Financial Year: PAGEREF _Toc85810420 \h 12
Executive Summary
Tesco PLC is among the reputable food retailers a customer would ever want to purchase from. Besides running a private labeled brand, the company offers brick and mortar supermarkets, and online retailing across Europe and Asia. Indeed, the company has taken over several well-established enterprises across the globe, leading to its growth to one of the largest most profitable online grocery stores. The author assesses the company’s SWOT to attain viable information that would help to suggest the best merger and acquisition price for the company. Besides, the merger and acquisition target are valuated and the information becomes helpful in determining the reasonable price of acquisition and the potential payment strategy for the project. However, this strategy is limited to the targets premium value and standalone price, which implies that the targets debts are omitted.
Tesco PLC
Introduction
Tesco PLC is among the reputable food retailers a customer would ever want to purchase from. Besides running a private labeled brand, the company offers brick and mortar supermarkets, and online retailing across Europe and Asia. Despite offering a variety of food and non-food products, the organization provides insurance and retail banking services through the Tesco Bank, located in the United Kingdom. As a result, Tesco has remained among the leading grocery retailers with at least twenty-five percent of the market share. The company’s financial statements reveal that the organization realized over fifty billion dollars in revenue from its outlets in the United Kingdom and the Republic of Ireland alone—and expects a steady increase in its cash revenues annually. The author evaluates Tesco’s growth strategy to recommend the most appropriate merger or acquisition option by a potential acquirer.
Tesco SWOT Analysis
* Strengths
Tesco’s operations can be dated back to 1919 when the company had already started selling surplus groceries. Today, Tesco is among the world’s most renowned food store retailers operating its line of stores in over twelve countries giving it over 25% market share. With hundreds of thousands of employees to offer customer services, the company services millions of families through the physical stores as well as the online services (Biznews, 2021). Indeed, the company has taken over several well-established enterprises across the globe, leading to a strong financial turnaround growth for one of the largest most profitable online grocery stores.
* Weaknesses
Because the company deals in a variety of food products, there is a potential lapse in adhering to the food and safety guidelines which cause severe consequences. Furthermore, Tesco has acquired several stores that include shops and restaurants to expand its operations within a target market, but the company suffers from quality control considering the complaints from clients (Biznews, 2021). Regardless, the company’s management has put in place strategies to ration a few of its items to curtail product shortage.
* Opportunities
With the significant amount of unsold stockpile in the social supermarkets, Tesco can charge affordable prices for the inventory to minimize wastage. Since the onset of the covid19 pandemic, Tesco has availed the opportunity to grow its online store (Biznews, 2021). Indeed, the most viable opportunity is for Tesco to increase its online presence, that when done right, the company will remain among the market leaders in the long run.
* Threats
The economic recession continues to be one of Tesco’s threats due to the challenges relating to revenue forecast. While the economic crisis has led to a reduced purchasing power by customers, it has also led to a rising unemployment concerns that put Tesco in financial uncertainties (Biznews, 2021). Besides, competition is another threat facing Tesco as companies such as Sainsbury’s seek to expand their market share through extensive innovation.
Potential and Realistic M&A Target
Tesco has employed the merger and acquisition as one of the strategies to scale up its growth in the target markets. Indeed, the company continues to remain open for much more suitable merger and acquisition with a better fitting of its business strategy—usually including setting up more stores under the Tesco’s brand name. Typically, Tesco’s management find merger and acquisition opportunities under circumstances where the business forecasts a win-win result from such engagements (The Guardian, 2013). Furthermore, the merger and acquisition has proved to be one of the best strategies that have helped Tesco to increase its market cap because it gains more clients. From a fundamental perspective, any company that has been experiencing diminishing cash flows would employ merger and acquisition strategy to salvage its compromised financial capacity.
In my opinion, the best merger and acquisition target would be ASDA. ASDA is among the market leaders in the retail industry with several lines of supermarkets and superstores, and its headquarters in Leeds. I believe that merging with ASDA Stores is a diversification approach that would assist Tesco to benefit from extensive distribution along with a huge range of products. Tesco would avail up to over 25 new established distribution centers across the United Kingdom (U.K.) through this horizontal merger and acquisition. Besides, this merger and acquisition would lead to more supercenters, superstores, and even a petrol line, among other essential activities and services carried out by Tesco. Some of the synergies that would arise as a result of a merger between Tesco and ASDA include distribution networks, marketing synergy, and revenue synergy, among others. Indeed, Tesco and ASDA can streamline their operations to increase revenues and improving technology, while keeping costs to a minimum.
ASDA Valuation
Like Tesco, ASDA is also a public limited company which means that its shares are continuously sold and bought. ASDA’s market cap is currently equivalent to the total price paid by the “Issa Brother” and their associates when they acquired the company from the giant Walmart—ASDS was sold for 6.8 billion Euros. Using the company weighted average cost of capital of 4.03% and the cash flows from 2017 to 2019, we can forecast cash flows for the next two years. With the sum of the free cash flows, total debt, and cash and cash equivalent, it becomes easy to calculate ASDA’s present price value which is $80.45. According to Yahoo Finance (2021), ASDA paid a total of $1.52 billion to shareholders. Dividing the equity value by shares outstanding gives the price per share of $73.14. However, ASDA’s current stock value is zero and with a current share price of $73.14, the firm needs an immediate acquirer for future growth.
Investors can determine ASDA’s market value through the price to earning ration. Typically, the ratio is computed by dividing the company’s market capitalization by the net income generated within a financial year. Because ASDA’s P/E ratio experiences a steady increase from 2007 through to 2019, it implies that investors are willing to pay more funds for the merger and acquisition. Furthermore, ASDA’s financial performance can be evaluated through the free cash flows to show the cash a company can produce after deducting purchase of assets such as machinery. However, with ASDA’s free cash flows indicating negative values, it means the company cannot raise enough capital to support its business operation. Therefore, free cash flow is the viable valuation strategy to determine the true value of a merger and acquisition target.
How to Finance the Acquisition
Even though Tesco is a market superior compared to ASDA, it can acquire the company to increase its supply chain power through creating economies of scale to improve new niche offerings. Suppose Tesco is interested to acquire ASDA, the best financing option is through the company’s equity. According to Tesco’s current financial structure, the company has cash equity valued at 28 billion dollars. On the other hand, ASDA is currently valued at 6.8 billion Euros which translates to 7.888 billion dollars (Yahoo Finance, 2021). When these capital structures...