Case Studies in Finance Case 1: Chrysler

Ratio Analysis

Before Chysler merged to become DaimlerChrysler AG, they were presented with a takeover bid of $55 per share by MGM billionaire Kirk Kerkorian and former Chrysler chairman Lee Iacocca. Kirk Kerkorian was a stockholder in Chrysler and an experienced takeover financier who apparently found Chrysler to be a good buy. Chrysler rejected the offer, however, stating that the firm was not for sale. Further, many Wall Street experts felt that Kerkorian could not come up with the $20 billion necessary to complete the deal.

After Chrysler rejected Kirk Kerkorian's bid of $55 per share, Kerkorian decided to have his people repeat the analysis of the firm's financial performance over the two most recent years to determine if he should increase his bid in this friendly takeover attempt. To measure the financial performance of Chrysler over the past two years, key financial ratios will have to be computed and compared with industry averages. To help in this endeavour, Chrysler's financial statements are found on the following pages.

Chrysler Corporation's Balance Sheet for the year ending December 31 (in millions)

This Last

year year

Assets

Current Assets

Cash and cash equivalents $ 5,543 $ 5,145

Marketable securities $ 2,582 $ 3,226

Accounts receivable $ 2,003 $1,695

Inventories $ 4,448 $3,356

Prepaid taxes $ 985 $1,330

Finance receivables $13,623 $12,433

Total Current Assets $29,184 $ 27,185

Property & equipment $20,468 $ 18,281

Less: Accumulated Depreciation $ 7,873 $ 7,208

Net Plant & Equipment $12,595 $ 11,073

Other Assets

Special tools $ 3,566 $ 3,643

Intangible assets $ 2,082 $ 2,162

Deferred tax assets $ 490 $ 395

Other assets $ 5,839 $ 5,081

Total Assets $53,756 $49,539

Liabilities

Current Liabilities

Accounts payable $ 8,290 $ 7,826

Short-term debt $ 2,674 $ 4,645

Accrued liabilities $ 7,032 $ 5,582

Other payments $ 1,661 $ 811

Total Current Liabilities $19,657 $18,864

Long-term Liabilities

Long-term debt $ 9,858 $ 7,650

Accrued employee benefits $ 9,217 $ 8,595

Other non-current liabilities $ 4,065 $ 3,736

Total Long-term Liabilities $23,140 $19,981

Total Liabilities $42,797 $38,845

Stockholder's Equity

Preferred stock $ 0 $ 2

Common stock (at $1 par) $ 408 $ 364

Additional paid-in capital $ 5,506 $ 5,536

Retained earnings $ 6,280 $ 5,006

Treasury stock ($1,235) ($ 214)

Total Shareholder's Equity $10,959 $10,694

Total Liabilities and Share. Equity $53,756 $49,539

Chrysler Corporation's Income Statement for the year ending December 31, (in millions)

This Last

year year

Sales revenue $53,195 $52,235

Less: Cost of goods sold $41,304 $38,032

Gross profits $11,891 $14,203

Less: Operating expenses

Selling & admin. $4,064 $3,933

Pension $ 405 $ 714

Nonpension post ret. $ 758 $ 834

Depreciation $1,100 $ 994

Amort. of tools $1,120 $ 961

Total operating expenses $ 7,447 $ 7,436

Operating profits $ 4,444 $ 6,767

Less: Interest expenses $ 995 $ 937

Net profit before taxes $ 3,449 $ 5,830

Less: Taxes (40%) $ 1,380 $ 2,332

Net profit after taxes $ 2,069 $ 3,498

Industry Average Financial ratios this year and last year

This Last

year year

Liquidity

Current Ratio 1.78 1.69

Quick Ratio (Acid Test) 1.55 1.51

Activity

Inventory Turnover 7.41 7.58

Average Collection Period 22.8 23.4

Fixed Asset Turnover 1.54 1.62

Total Asset Turnover .89 .91

Debt

Debt 75% 77%

Times Interest Earned 6.4 7.0

Profitability

Gross Profit Margin 24% 28%

Net Profit Margin 4.7% 4.9%

Return on Total Assets 4.6% 4.7%

Return on Equity 20.7% 33.8%

Questions

1. Compute Chrysler's financial ratios for the past two years.
2. Compare these ratios to the industry's average.
3. Comment on Chrysler's strengths and weaknesses by ratio category.
4. Should Kerkorian have pursued the purchase of Chrysler? [please support your answer with any 2 reasons].

Case 2: Intel

Basic Concepts: Portfolio Risk and Return Analysis

Michael Frank is an individual investor who is currently considering the purchase of $4,000 worth of Intel's common stock. Mike already has a significant amount invested in the computer industry, but he feels Intel will be one of the leading companies in the future. One of the reasons for this perceived future success is the Research and Development being done in the area of parallel supercomputers.

Justin Rattner, Intel's former scientist of the year, is a leading researcher in parallel supercomputing. Parallel supercomputing breaks down a complex problem into many, easier to manage components. Further, all of these components can be manipulated simultaneously. It is analogous to Tom Sawyer getting all his friends to paint the fence.

The speed of parallel computers is much faster than their larger and supposedly faster computers competitors. Computer chip manufacturers are concerned primarily with speed and the size of the components necessary to generate the speed. With Intel leading the way in this emerging area, Mike feels he should own their stock.

One concern Mike has is how the inclusion of Intel's common stock will affect the overall return and risk of the computer stocks he currently owns. Presently, Mike holds $2,000 worth of IBM, $3,500 in Compaq, and $4,500 in Apple.

To determine the impact of the purchase of $4,000 worth of Intel, Mike has calculated the expected annual returns over the next eight years for each of the four stocks. The expected returns for each are shown in the table below.

Years into the future	Expected Return for each Company (%)
IBM	Compaq	Apple	Intel
1	6.2	0.1	-4.2	4.8
2	7.8	2.8	6.6	10.2
3	6.9	-1.9	12.2	11.3
4	-4.1	2.9	7.8	18.1
5	8.9	7.7	4.3	6.6
6	10.2	15.1	-2.1	-1.8
7	15.3	19.3	8.4	2.7
8	9.2	14.2	10.2	10.9

The beta of Intel is projected to be 1.1 over the next eight years. The betas of IBM, Compaq, and Apple assumed to be 0.7, 1.6, and 1.0, respectively. Mike wants to see what affect the purchase of Intel will have on the beta of his overall portfolio. He is assuming the beta of each firm will remain constant over the eight year period.

Questions

Calculate the expected return for each of the next eight years without the inclusion of Intel.

Calculate the expected return for each of the next eight years with the inclusion of Intel.

Calculate the standard deviation for each of the next eight years without the inclusion of Intel.

Calculate the standard deviation for each of the next eight years with the inclusion of Intel.

Calculate the beta of the portfolio both with and without Intel.

We have assumed that beta will be constant over the next eight years. How realistic is this assumption. That is, does beta tend to remain constant over time?

Which measure of risk is more appropriate when considering Intel's inclusion into Mike Frank's portfolio, standard deviation or beta?