Stock Market and Paramount

Case Study

Questions –Paramount Communications Inc. 1993- Why a paramount is a takeover target? Several Strategic Reasons - Cost reduction: through combinations of similar business and economy of scales - Sales increase: cross-promotions of each company’s brand and utilization of each company’s channels, and cooperation in international businesses. Which of the two firms (Viacom or QVC) would make a better fit with Paramount? -Viacom: Overlap in the business creates synergies regarding cost and revenue. However, cannibalisation may happen in the near future. QVC: Small rooms for synergies (cost reductions may be limited to non-business section. ). Volatility may high regarding the realisation of synergies (Most of new synergies come from new businesses. ). Therefore, Viacom is more likely to be a good fit with Paramount. Compare your valuation (stand-alone basis) with market price. What makes the difference between two prices? Target Price: $26. 48 to 29. 41 Market Price: $ 48. 88 to 55. 50 Market Price Multiples: Multiples imply the current stock price is overvalued.

Market expectation that the company will generate more Free Cash Flow growth in the next few years Speculation regarding potential takeover. What effect would Viacom have on the costs at Paramount if it bought the company? What effect would Viacom have on Paramount’s growth rate? What would happen to costs and sales growth if QVC bought Paramount instead?

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Viacom impact on the cost and growth rate at Paramount -Cost reduction can be expected thorough combinations of similar business and economy of scales -Viacom will increase sales growth of Viacom by cross-selling and cooperation in international businesses. QVC impact on the costs and sales growth at Paramount -Though QVC expects , the cost reduction will be limited as both companies share the same business area. In addition, sales growth of Paramount will be cut as QVC has intention of restructuring some of the Paramount businesses. What is Paramount worth to Viacom? - Theme park (cross-selling) - Film Library/Film Distribution Business. What is Paramount worth to QVC? - New business opportunities in Entertainment - Film Library/Film Distribution Business 7. Compare your valuation with Smith Barney’s.

What assumptions do you have to make to get the terminal value EBITDA multiples used by Smith Barney. Is there any benefit of their method relative to FCF method? Smith Barney is using EBITDA of 14 to 16X. Since EBITDA multiple tends to revert to a certain level over the year, we need to assume that the market will keep pricing the company at the same level of 1993. The merits of EBITDA multiples: -They don’t need to assume the perpetual growth rate which is hard to calibrate but has substantial impact on pricing. -They can ignore the capital structure change Easier to understand (it is “market consensus”) What doe 30% premium suggest? Is it reasonable? 30% of premium over the market price may be reasonable given; a) control premium b) the nature of takeover (it can be considered as “Insider Trading”, and to avoid litigation by shareholders, an acquirer may need to pay premium) c) consideration of synergies through a takeover. How should Redstone proceed? What price should he offer? Should the offer be a cash offer, a stock offer, or some combination? What should he do about the lock-out option and the termination fee?

Should he bother trying to buy Paramount at all? -The price to offer: $63. 00 (after aggressive synergies consideration) > premium of 14. 55% over the current stock price ($55. 00) -The type of merger: The total amount required will be From $63. 00 * 120million shares * 50. 1% = $3,787. 6 million to $63. 00 * 120million shares * 100% = $7,560 million. Cash: $3,783. 6million to $7,560 million was too much as Viacom has only $28. 7 million cash and most of cash is supposed to be kept for working capital (total current liabilities amount to $848. 3 million).

Also, as the LBO is impossible either since Paramount has only around Free Cash Flow of around $300 million. Stock Offer: Therefore, stock offer can be a more reasonable option. However, Redstone’s control over Viacom itself will decrease (see the table below). Lock-up and termination fee: Redstone should cease the options first if he really wants to buy the company. Conclusion: Redstone should not buy Paramount for the following reasons; a) He will substantially lose his control over Viacom b) Current market price is overvalued compared to Paramount’s intrinsic value. c) Realisation of synergies on revenue side is still uncertain.

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