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Ford Motor Company's Value Enhancement Plan (A) Case Solution
Ford Motor Co. announced recapitalization of firm’s ownership structure through a shareholder Value Enhancement Plan. In this plan, the company intended to distribute $10 billion of cash among the shareholders by giving them the choice between $20 cash and new common shares. The VEP also gives the Ford family access to common shares without diluting their 40% voting rights, who own 5% of total outstanding shares. Management is confident of the company’s performance and wants to get credit of their good cash flows by distributing it among shareholders. Moreover, most of the analysts have expressed optimism after the announcement of the Value Enhancement Plan. Lastly, the shareholders have strongly objected to the VEP since it favors the Ford family. The most important issue is that why the company is offering such a plan as opposed to traditional share repurchase or cash dividend. Why is the company distributing such a huge amount of cash?
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Ford Motor Company s Value Enhancement Plan A Case Analysis
Ford Motors Co., established in 1903 by Henry Ford and 11 investors, has been growing in an industry sensitive to economic factors such as interest rates, oil prices, etc. Having gone public in 1956, Ford Motors had class A shares and class B shares. Class B shares were held solely by the Ford family members while class A shares were distributed among institutional and individual shareholders. The Ford family retained 40% voting rights in the company as long as they held 60.7 million shares of class B. The ford family often met their liquidity needs through the cash dividend policy. The special capital structure of the company serves to make sure that the interests of the Ford family are met.
The current issue is the introduction of a new shareholder Value Enhancement Plan (VEP). Under the Value Enhancement Plan, existing shareholders could exchange their existing shares one-for-one with new shares of the respective classes. Moreover, the shareholders will get the option to choose between $20 cash or new common shares of equivalent value in addition to the exchange of shares. Those who do not make a choice would receive the $20 cash option. Shareholders who choose to receive cash will be taxed as if they received capital gains on the sale of shares.
The Value Enhancement Plan has a number of advantages as well as disadvantages. Among its many advantages, the most evident is that it offers an opportunity to the shareholders and passive investors to revise their ownership stake in the company. Furthermore, although dividends had adverse tax effects for all of the shareholders, Ford Motors Co. has been giving out dividends particularly to meet the liquidity needs of the Ford family. Through the VEP, Ford family would get ownership to millions of common shares of class A, which they can sell to meet their liquidity needs without reducing their voting rights.
Another benefit of the VEP is that it will result in an increase in the share price of Ford Motors. According to analysts, it will enable Ford to get credit of its decent cash flows and giant cash reserves. By distributing $10 billion among the shareholders, Ford can boast of the management’s confidence in company’s performance. This will boost shareholders’ trust and increase the value of Ford’s share in the market. In addition, the Value Enhancement Plan will align the goals of different shareholders. As already mentioned, the Ford family members can meet their liquidity needs without diluting their control in the company. Small investors who want to earn a return can do so through the VEP without having to sell their shares. Moreover, institutional investors can either reinvest their dividends back into Ford Motors by opting for common shares in the election or divest take cash and invest elsewhere without losing their share in the firm.
Besides the benefits mentioned above, the shareholders’ Value Enhancement Plan comes with numerous costs and criticism. Certain shareholders object that the plan is centered on the stakes of the Ford family and unfairly favor them at the expense of other shareholders. They maintain that common-stock holders should have the right to approve or reject the issuance of common shares to the Ford family since the certificate states that the common stock dividend cannot be distributed among class B shares.
The VEP is sending some wrong signals to the investors and shareholders about the company as well. Although distributing the greatest amount among the shareholders, of the past decade, depict the cash position of the company, it also shows a dearth of investment opportunities available to Ford. Moreover, the characteristics of the VEP resemble that of stock split and share repurchase in some ways. For example, the option of receiving cash in place of new equity share is like share repurchase. Whereas every shareholder gets 0.748 shares for $20 dividend which is resembles 1.748 to 1 stock split.
Investors and shareholders say that instead of the VEP, Ford Motors should have gone for dividend repurchase or simply a declaration of the cash dividend. Cash dividends provide vital signals about the company’s financial position and strong expected cash flows. Moreover, some of the investors would prefer the certainty of cash dividends as opposed to the future expectation of higher capital gains. On the other hand, stock repurchases also send signals of a healthy firm. By buying the shares of the company back, Ford can reduce the number of shares in the market which will result in an increase in earnings per share (EPS) and subsequently, a rise in share price. Stock repurchase has lower tax cost than cash dividends. Nevertheless, the Ford family would not settle for cash because common shares will provide them enough liquidity. The family would also not accept repurchase as it could result in a decrease in the ford family’s voting rights.
Another important implication is the form of distribution of the $10 billion. Since the management has decided to distribute $10 billion among the shareholders, they would have to use other means if enough people did not sign up for the cash option. However, the management is strongly confident that at least 40% of shareholders will opt for cash.
Ford Motors appears to be suffering from the agency problem, conflict of interest between company’s management and stockholders. The reason for this slack can be that the management is not willing to put in extra effort and look for investing opportunities to utilize this excess cash. The structure of VEP is such that it can potentially reduce the value of the firm in the market due to the negative symbols it sends to the market.
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