LAB International Inc. Harvard Case Solution & Analysis

LAB International Inc. Case Solution

            (5 points) Why might the market undervalue a company that has two significantly different divisions? Please provide at least two reasons. This is a conceptual question.

The market can undervalue a company because of its unprofitable division. The company hasa division which is making losses or is not benefiting in increasing the company’s profit margin. The value investors would buy the stock that would increase after the company sells its unprofitable division.

The stock price does notsuit the investors’ expectations. The valuation technique used by the Lab international Inc. is relative valuation analysis. The company might have different products, divisions and size of the company. The investors are expecting an additional return because of the small size of the company.

2.         (10 points) Building on previous question, what are the main issues facing the firm? Please provide at least four reasons. This is a conceptual question.

There are several issues faced by the firm regarding increasing shareholders’ value. The Lab International Inc. was considering spinning off its divisions into isolated entity. The issue was to whether to sell the company in a single transaction or in multiple transactions. The company was concerned about the risk associated with the secondary or multiple transactions.The undervaluation of the stock price was also a main issue for the management to consider.

The undervaluation of the stock price was due to the  underpeformance of one of its division. The market knows that the company is about to sell its division, which causes the market value of the entity to decline.

LAB Research was finding new ways to raise cash that it couldenhance in the LAB Pharma. The agreement of expansion in LAB Research’s Laval facility requires the division to improve the company’s cash flows. The issue was also arising because of the valuation factors. The market conditions and the qualitative factors are not considered while valuing the firm.

3.         (10 points). What are the alternatives that are being considered? What are their pros and cons? Please address separately each alternative. This is a conceptual question.

Alternative 1: Keep ownership of both divisions

Pros

The company might not get its real worth of selling single division due to market perception about its divisions,therefore it isbetter to stay with both divisions for a better value.

The investorsmight gain interest in funding the company which would help them raise their stock price and growth in profits. It is also difficult to find the similar portfolio for the company to sell its division for the cash raised.

Cons:

One of the divisions requires consistent cash for its operations, as selling none will leadto a major loss. The cashrequiredfor expansion of one of its division may create amajor threat of selling the company.

The undervaluation of the stock price mayalways be there, thereforethe potential of the increase in profits and focus on one division will also be not achieved. The company is solely dependent on LAB research for funding the cash.

Alternative 2: Sell LAB Research

Pros       

The selling of the LAB Research would provide quick cash flows to the company asthe sale would bring the cash needed for the development of the LAB Pharma. The LAB Pharma has the greatest potential to provide high profits to the company which can be saved by selling LAB Research.However,theissue of thecash required for its expansion will also be resolved.

Cons

The market knows that the company is about to sell one of its department to raise cash which will lead to a decline in the selling price of the division.The LAB Research issolely dependent for the stock price of the company, thus selling it may reduce its stock price..................

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