Gap Analysis: Lester Electronics

Gap Analysis: Lester Electronics

MBA 540

University of Phoenix

December 11, 2007

Gap Analysis: Lester Electronics

Lester Electronics is at a pivotal point of the business. Bernard Lester cannot continue to manage the business as has previously been done due to the changes in the industry and a possible loss of their largest vendor, Shang-wa. John Lin, founder and CEO of Shang-wa, is looking to spend less time with his business and more time with his family. John Lin has informally suggested to Bernard that they partner in a new country that would enable both companies to meet the growing demands for their products. John Lin also feels pressured to sell to another manufacture, Transnational Electronics Corporation (TEC). If Shang-wa does not sell or enter into a joint venture with Lester, Shang-wa will not continue to remain in business because John Lin has not groomed a successor. Lester also feels pressured by Avral Electronics, S.A. to sell the business. Lester must make the decision to partner with Shang-wa so that they are not forced out of business or to be acquired by Arval. Lester's proposal to create a joint venture with Shang-wa may be the only option that would allow both companies to stay in business.

The Board of Directors has approved the merger and Lester's financial team needs to develop a plan for the venture to occur. The merger will create opportunities in the world market as Lester expands its boarders into other countries. The company will need to formulate a successful financial plan that optimize the growth opportunities and maximize the shareholder's wealth.

Situation Analysis

Issue and Opportunity Identification

Some of the issues that involve the merger is that Lester will need to face is that Transnational Electronics Corporation (TEC) has approached Shang-wa with a hostile takeover bid. If Shang-Wa is acquired by TEC then LEI will lose a contract with his main supplier. This will cause LEI to lose 43% revenue over the next five years.

Lester has to determine if they have the financial capacity to complete a merger with Shang-Wa. "Excess financial capacity is free cash flow plus excess debt capacity. Jensen (1986) defines free cash flow as the cash flow in excess of that needed to fund all positive net present value (NPV) projects. Excess debt capacity is defined as the difference between an optimal debt level and the company's current level of debt" (Carroll, 2001). Lester will need to determine a capital structure and financing plan to use to go through with the merger. Shang-wa has a considerable larger amount of debt than LEI. Lester will need to finance the merger through working capital and the acquisition of stocks. If the merger is not successful then Lester faces the dilemma of decreasing shareholders wealth by the TEC acquisition of Shang-wa.

Lester Electronics needs to combine their financial reports with Shang-wa. This will reduce the exposure risk due to the company's susceptibility from currency exchange rates (Operating exposure, 2004). Three main types of exposure: economic exposure, transaction exposure, and translation exposure. Economic exposure is "the extent to which the value of the firm would be affected by unanticipated changes in exchange rates." Transaction exposure is "the sensitivity of the realized domestic currency values of the firms' contractual cash flows denominated in foreign currencies to unexpected exchange rate changes" (Ross, 2005).

Lester has the opportunity to enter into a joint venture with Shang-wa Electronics and expand the company to protect its future. The advantage is that LEI management understands the business process and can make correct business decisions (Webster, 2006). Partnering with technologically compatible companies gives the ability to accomplish the integration process rapidly.

Other opportunities arise from the proposal of Avral Electronics to acquire Lester. The acquisition with Avral Electronics would open the company to increased globalization. This opportunity would allow LEI to have a worldwide presence in its market, integrate it operations worldwide, and standardize operations in one or more of the company's current functional areas. Lester Electronics has the opportunity of becoming partners with Shang-Wa and maintains the distribution contract. Lester Electronics has the opportunity to grow as a company, take on new actions, and continue its relationship with Shang-Wa. LEI has the opportunity to research to and find out how to best deal with operational exposures, such as exchange rate fluctuations. The opportunities offer diversification strategies increased profitability due to shared resources and synergies, reduce the company's overall exposure to risk by balancing the business portfolio, or an opportunity to exploit underused resources (Yeldar, 2006).

Stakeholder Perspectives/Ethical Dilemmas

Many stakeholders that will benefit from this merger include shareholders, management, employees, suppliers and distributors, and customers. Stakeholders may be concerned about a loss of revenue through poor investment choices and faulty capital budgeting. Shang-wa shareholders will expect a fair price to retire their shares. LEI shareholders will anticipate sufficient returns on their investments. Management will require clear and fair financial practices in place for the new entity. Suppliers and distributors will count on benefits from the expected synergies of lowered operational costs. Customers will demand quality products at fair market prices. The responsibility of the CFO is to ensure that the original investment of the shareholders is greater than the value of the present resources sacrificed.

An important stakeholder outside Lester Electronics is the distribution chain. These stakeholders are suppliers who distribute the products to end customers. Lester Electronics relies on many distributors to keep the company running smoothly. They value low production costs and superior quality. The company depends upon its interest and relationships with distributors. Lester Electronics understands that the distributors' rights and values have to be respected to guarantee rapid movement of products. The company depends upon its interest and relationships with distributors to generate sales.

The CFO will need to consider any possible ethical dilemmas that a merger may create. John Lin and Bernard Lester have developed a 35 year long business friendship. One ethical dilemma facing LEI will