Case studies

At three o'clock in the morning on September 10, 2001, Thierry Hautillac, a risk arbitrageur, learns of the final agreement between Pinault-Printemps-Redoute SA (“PPR”) and LVMH Moët Hennessy Louis Vuitton SA (“LVMH”). After a contest for control of Gucci lasting over two years, PPR has emerged as the winner. PPR and LVMH have agreed for PPR to buy about half of LVMH's stock in Gucci for $94 per share, for Gucci to pay an extraordinary dividend of $7 per share, and for PPR to give a two and a half year put option with a strike price of $101.50 to the public shareholders in Gucci. The primary task for the student in this case is to recommend a course of action for Hautillac: should he sell his 2% holding of Gucci shares when the market opens, continue to hold his shares, or buy more shares? The student must estimate the risky arbitrage returns from each of these choices. As a basis for this decision, the student must value the terms of payment and consider what the Gucci stock price will do upon the market's open. The student must determine the intrinsic value of Gucci using a DCF model as well as information on peer firms and transactions. The student must consider potential synergies between Gucci and PPR and between Gucci and LVMH. The student must assess the likelihood of a higher bid, using analysis of price changes at earlier events in the contest for clues.

In early 2012, an equity analyst, was examining the jet fuel hedging strategy of JetBlue Airways for the coming year. Because airlines cross-hedged their jet fuel price risk using derivatives contracts on other oil products such as WTI and Brent crude oil, they were exposed to basis risk. In 2011, dislocations in the oil market led to a Brent-WTI premium wherein jet fuel started to move with Brent instead of WTI, as it traditionally did. Faced with hedging losses, several U.S. airlines started to change their hedging strategies, moving away from WTI. But others worried that the Brent-WTI premium might be a temporary phenomenon. For 2012, would JetBlue continue using WTI for its hedges, or would it switch to an alternative such as Brent?

Hedge fund Magnetar Capital had returned 25 percent in 2007 with a strategy that posed significantly lower risk to investors than the S&P 500. Magnetar had made more than $1 billion in profit by noticing that the equity tranche of CDOs and CDO-derivative instruments were relatively mispriced. It took advantage of this anomaly by purchasing CDO equity and buying credit default swap (CDS) protection on tranches that were considered less risky. Now it was the job of Alec Litowitz, chairman and chief investment officer, to provide guidance to his team as they planned next year's strategy, evaluate and prioritize their ideas, and generate new ideas of his own. An ocean away, Ron Beller was contemplating some very different issues. Beller's firm, Peloton Partners LLP, had been one of the top-performing hedge funds in 2007, returning in excess of 80 percent. In late January 2008 Beller accepted two prestigious awards at a black-tie EuroHedge ceremony. A month later, his firm was bankrupt. Beller shorted the U.S. housing market before the subprime crisis hit, and was paid handsomely for his bet. After the crisis began, however, he believed that prices for highly rated mortgage securities were being unfairly punished, so he decided to go long AAA-rated securities backed by Alt-A mortgage loans (between prime and subprime), levered 9x. The trade moved against Peloton in a big way on February 14, 2008, causing $17 billion in losses and closure of the firm.

This case analyzes the strategies of the two hedge funds, focusing on how money can be made and lost during a financial crisis. The role of investment banks as lenders to hedge funds such as Peloton is explored, as well as characteristics of the CDO market and an array of both mortgage-related and credit protection-related instruments that were actively used (for better or worse) by hedge funds during the credit crisis of 2007 and 2008.

This case challenges students to apply financial reporting concepts pertaining, most notably, to liabilities and expenses in a specific corporate situation. In the context of an interesting, but noncomplex, technical accounting issue, students debate the best way for Adenosine Therapeutics to present its compensation arrangements in its financial statements. In addition, this case also prompts students to debate the best way for a growing company, with cash constraints, to provide incentive and maintain top employees.

This case raises the question: How does a company reasonably estimate and record entries for uncollectible trade receivables, and under what circumstances are receivables written off as uncollectible? The required accounting transactions for the case involve estimating a receivables allowance both as a percentage of sales and as a percentage of accounts receivable and making specific account judgments under the direct write?off method. The subjective issues involve analyzing and assessing a company's methods of collection and accounting for bad debts.

Students act as outside analysts attempting to determine how Alfin will finance its expected growth based on sales of antiwrinkle cream.

While preparing a financial forecast, the newly promoted CFO of a small and profitable but financially constrained ready-mix concrete company must choose between renegotiating debt obligations, postponing long overdue capital improvements that will prevent more costly future repairs, or reducing the dividend payment to a parent company that just recently purchased the firm.

After having negotiated major financial and operating decisions with its parent company, the CFO of this small ready-mix concrete subsidiary is asked to provide a valuation of the subsidiary. A one-year forecast of financial statements is provided along with information on long-term operating expectations and capital costs. This otherwise straightforward valuation exercise is enhanced by (1) the need to select between the parent- or comparable-firm costs of capital, (2) sufficient guidance to perform an illuminating sensitivity analysis, and (3) a sufficiently clear and rich context in which to illustrate the linkages between operating and financing choices. A teaching note and instructor and student Excel spreadsheets are available.

This case is used in Darden's FY Finance course, but it would be appropriate in any course introducing firm valuation. The case examines the 2012 decision by American Greetings (AG) to repurchase shares. Students can build a simple model of the company's future cash flows and derive an implied value. Because the company is arguably in a state of maturity or decline, a discussion of steady-state economics is particularly germane.

Set in September 1992, this exercise provides teams of students the opportunity to negotiate terms of a merger between AT&T and McCaw Cellular. AT&T, one of the largest U.S. corporations, was the dominant competitor in long-distance telephone communications in the United States. McCaw was the largest competitor in the rapidly growing cellular-telephone communications industry. Prior to the negotiations, AT&T had no position in cellular communications. This case and its companion (F-1143) are designed to allow students to be assigned roles to play. The case may pursue some or all of the following teaching objectives: exercising valuation skills, practicing strategic analysis, exercising bargaining skills, and illustrating practical aspects of mergers and acquisitions.