Goodyear Tire & Rubber Company: Follow-On Equity Issue Harvard Case Solution & Analysis

GOODYEAR TIRE & RUBBER COMPANY: FOLLOW-ON EQUITY ISSUE

Introduction

The report presents a case about Goodyear Tire and Rubber Company, which was one of the world’s largest tire manufacturers. The company enjoyed tremendous success over the past few years but later on the company faced some difficult challenges due to increased competition from low cost producers along with high cost of labor and material. Hence, in order to tackle this problem, the company was considering to adopt  strategies, which would improve the performance of the company.

The agreement between the Goodyear Tire and Rubber Company and United Steel Workers benefited the company in the past and tend them to report substantial profits from their operations. In May 2007, Goodyear Tire and Rubber Company and company considered the need for further capital to finance its expansion, so they approached a large investment bank about their intention to sell an upcoming equity.

Problem Statement

Geoffrey Epperson was concerned about the potential investment in Goodyear Tire and Rubber Company and was also worried about the potential decision to sell its existing shareholding, stand pat or increase its shareholding in Goodyear Tire and Rubber Company.

Analysis

  • Strength and weaknesses of an equity offer for Goodyear Tire and Rubber Company
  • Narrative description of VEBA and how it affects investors’ perception
  • Cost of equity issuance and estimated cost that GT will incur with its offering
  • Negative reaction of market for new equity issue and any initiatives to improve the reaction
  • Evaluation of the Goodyear Tire and Rubber Company’s proposal

Strength and weaknesses of an equity offer for Goodyear

The recent agreement with United Steel Workers significantly increases the performance of the company and the company requires further capital so as to finance this recent expansion. If the equity offer is successful then the company will be able to generate sufficient cash that can be invested by the company to expand its operations and achieve  long term success. Further, it will also strengthen the liquidity position of the company, which will lead the company to suffer low interest cost for financing its working capital.

Goodyear Tire and Rubber Company has recently faced challenges due to increased competition from low cost producers and due to high labor and material cost, so the funds generated from the equity offer can be invested by the company in new equipments that may reduce manufacturing cost. Further, investment in latest technology will reduce the production cost and provides an opportunity to the company to sell its products at a price lower than their competitors.

Further, one of the strength for the company in issuing equity is that it will reduce the debt to equity ratio of the company, which will increase the confidence of the debt holders. Further, a reduction in debt to equity ratio and an increase in interest cover will improve the credit rating of the company, which will increase the debt holder’s confidence and help them in obtaining further finance at relatively cheaper rate.

One of the weaknesses of an equity offer for Goodyear Tire and Rubber Company is that the cost related with an equity issue. It includes both direct and indirect cost. The company will have to suffer underwriting cost when issuing the equity and this cost substantially reduces the cash inflows to the company.

Equity issue will increase the number of shareholders of the company and the profit will be distributed among various numbers of shareholders, hence, it will decrease the EPS. Further, EPS is a key ratio for investors and a decrease in EPS will reduce the share price of the company, which may not be acceptable to the investors because it will led them to recognize little capital gain.

One of the weaknesses of equity issuance is that equity it is an expensive mode of financing as compared to debt because the shareholders obtain a residual interest in the profits of the company. Further another drawback of the equity financing is that the dividend payment to shareholders is not a deductable tax expense in calculating taxable profits whereas, if the expansion has been financed through debt financing then the interest will be deductable tax expense in calculating taxable profits.

Narrative description of VEBA and how it affects investor’ perception

Voluntary Employees Beneficiary Association (VEBA) is a post retirement medical expense plan, which is used by retired individual and their dependents to pay the medical expenses. It is funded by the unused sick leaves, which the employee has at the time of retirement. One of the major advantage of VEBA is that the remaining sick leaves remained on retirement are paid full in the plan and another benefit from adopting this strategy is that it is not subject to tax.

Voluntary Employees Beneficiary Association (VEBA) will be considered as a useful ...................

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This case explains the marketing process for the following shares of the companies, the direct and indirect costs of the issue, and in the long term performance of the issuer's capital. Students use the analysts' forecasts, from which to estimate the intrinsic value of the company's shares, including savings from VEBA and financial improvements in the next few years. It is suitable for use in corporate finance courses range of capital in equity financing, capital structure, financing costs, financing alternatives, investment banking, and evaluation. It is a classic profile for the shares of the issuer, the firm's share price has risen to new heights in recent months. Question will result in additional value, which creates opportunities for the shareholders, or is it a sign of the company is overvalued? The case shall be thinking of a prominent investment manager who had accumulated a large stake in Goodyear, and who see no need in Goodyear, to make the issue of shares at the moment. The company's position is that the high stock will allow it to further strengthen its balance sheet and pursue international opportunities for growth. Students are asked to decide what an investor should do in relation to the current offer, to buy, sell or hold. "Hide
by Susan Chaplinsky, Warren Estey Source: Darden School of Business 20 pages. Publication Date: July 16, 2009. Prod. #: UV2555-PDF-ENG

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