Problem Solution: Lester Electronics

Problem Solution: Lester Electronics

University of Phoenix University of Phoenix

Problem Solution: Lester Electronics

Lester Electronics, Inc. (LEI), founded in 1978, is a small electronics company that distributes electronic parts to repair facilities, small local distributors, and two large domestic manufacturers that use capacitors in both consumer and industrial products. In 1978, LEI entered into an exclusive agreement to distribute Shang-wa Electronics (SE) products, a capacitor manufacturer. The contract must be renewed annually by both parties with a minimum order of one million dollars per year. The following will cover several of the issues, opportunities, goals, and visions of LEI which will help the company maintain and increase its revenues.

Situation Analysis

Issue and Opportunity Identification

John Lin, founder and chief executive officer (CEO) of Shang-wa Electronics, has let it be known that he would like to retire in the near future. John wants to leave the company confident that Shang-wa will continue to be operated by a talented management team. John believes his wishes will be satisfied if Shang-wa is purchased by Lester Electronics, Inc. If Lester Electronics, Inc is unable to secure financing for the acquisition, Shang-wa may be acquired by Transnational Electronics Corporation.

Before Lester Electronics, Inc. can pursue and decide on means of financing the acquisition of Shang-wa, LEI must work jointly with Shang-wa to determine Shang-wa's value. Several avenues of financing are available. Bernard Lester and his staff must analyze the available financing methods to determine which are most cost effective and will increase shareholders wealth, thus maximizing the value of the merger. Maximizing value of the merger correlates with maximizing wealth where choosing to increase value will simultaneously increase shareholder wealth. Should the management team fail to diligently analyze the various forms of financing available, the value of LEI may be adversely affected. Ross, Westerfield, and Jaffe (2004), contend that "managers should choose the capital structure that they believe will have the highest value" (p. 404). The proper capital structure may be a combination of cash, stocks, and bonds.

Once the value of the merger is determined, Lester Electronics, Inc will need to assess the net profit value (NPV) of the acquisition. Whether Lester Electronics, Inc should fund the acquisition in cash or stock and bonds depends on the NPV of the project. A cash purchase of Shang-wa may be possible due to LEI's availability of cash. "If cash is used to finance an acquisition, the selling firm's shareholders receive a fixed price. In the event of a hugely successful merger, they will not participate in any additional gains" (Ross, et al., 2004, p. 815).

Before the merger takes place, analysts need to determine the value of the firm after an acquisition. Combined, Lester Electronics, Inc and Shang-wa should be able to generate a higher cash flow than was possible as separate companies. Ross, et al. (2004) contend that "an analyst must estimate...cash flows and determine the proper discount rate" (p. 807). Therefore, the authors identify four general rules: "Do not ignore market values; estimate only incremental cash flows; use the correct discount rate; there will be transaction costs" (p. 808).

Stakeholder Perspectives/Ethical Dilemmas

The stakeholders of both companies must be regarded when considering an acquisition of Shang-wa by LEI. Financing must be arranged that is in the best interest of all stakeholders, with an understanding that Shang-wa shareholders will expect a fair price to retire their shares. Lester Electronics, Inc. cannot afford to overextend itself with high interest financing. Should LEI decide on financing that is too costly, the stockholders, employees, suppliers, customers, and the local communities of both companies will experience financial difficulties. The management at Lester Electronics, Inc. needs to consider the cultural differences between LEI employees and their counter parts at Shang-wa since the South Korean business culture is quite different from that of the United States. The transition must be planned, with the help of John Lin, to make the transition as smooth as possible for everyone involved.

LEI shareholders will expect sufficient returns on their investments. Senior management will require honest and accurate financial practices in place when the two companies merge. Customers will expect lower prices as well as an increase in quality from the reduction of overhead when the companies merge. LEI's chief financial officer (CFO) needs to ensure that the original investment of the shareholders will be greater than the value of the resources spent on the merger.

Regarding the possible acquisition of Shang-wa, LEI has an advantage since its founder and CEO, Bernard Lester, has ownership in the company. John Reese of RealMoney.com contends that;

Companies with the best prospects have strong insider ownership, says the O'Neil strategy, which it defines as 15% or more. O'Neil believes that at companies with strong insider ownership, management is more likely to act in the best interest of the company because insider interests are in line with those of shareholders. (2005, ¶ 21)

Problem Statement

Lester Electronics will grow their company and protect themselves from an impending takeover by strengthening their company and creatively deterring a takeover by Avral Electronics, S.A.

End-State Vision

The end-state goals for LEI begin with securing an affordable financing plan for the acquisition/merger with Shang-wa. LEI should maintain a low debt to equity ratio which includes taxes, assets and operating income, thus allowing LEI to maintain a positive cash-flow. In an article by Frank Galioto, Cindy McNeese, and Gerald Adolph, the authors imply that Anne Lorale, Lester Electronics, Inc. CFO needs to play the most pivotal role in the merger of LEI and Shang-wa. According to the authors:

Chief financial officers have evolved well beyond their stereotypical roles -- accountant and 'organizational police officer' -- and today are valued analysts and strategic business partners to senior management. Although it's not widely recognized, even by some CFOs, these executives are in an ideal position to be involved in all aspects of proposed transactions. [The end-state goals that Anne Lorale