A report on the strategic alliance of funtastic limited with abc learning centres limited-
1.0 FACT FILE
Funtastic limited is contemplating to forge a strategic alliance with ABC Learning Centres Limited after signing a non-binding heads of agreement for the purchase of ABC’s Judius Group of Companies for US $ 44.6 million.
Judius is forecast to achieve EBITA of $8.2 million for the year to December 2007.
Under the proposal ABC would receive $ 39.6 million of the purchase price in Funtastic shares, with the balance payable in cash for a potential 19.7 shareholding.
The two parties would enter into an ongoing supply arrangement, with Judius supplying toys, furniture, and learning and development products exclusively to all ABC childcare centres at commercial rates. There would be an ongoing revenue share agreement, with ABC to receive a percentage of revenues on all sales made to and through ABC childcare centres.
2.0 FALL IN SHARE PRICE OF FUNTASTIC AND THE EFFECT OF THE STRATEGIC ALLIANCE ON THE BUSINESS OF FUNTASTIC LIMITED
Immediately after the announcement by the Managing Director of Funtastic Limited, about the company’s reported drop in the estimated profits for the year 2006 and the strategic alliance the company is contemplating with ABC learning centres limited, the
Share prices of fantastic made a nose dive to $ 1.38 from $ 1.67
2.1 REASONS FOR THE FALL IN SHARE PRICE:
The following factors were mainly responsible for the downfall in the share price of Funtastic Limited.
1. While the company reported a jump in sales of 11.1% to $311.3 million for the year 2005, the company was not making an impressive performance during the first half of the year of 2006 financially and this was evident from various forecasts and announcements made by the company. The investors were cautious and holding on to their investments with the hope that the company would be performing better towards the end of the year and the share prices remained almost constant.
2. On may 11 2006 the Managing Director of Funtastic told the shareholders at the Annual General Meeting of the company that the company’s business is going through a rough weather and that the company is expected that the company will be making up for the drop in sales of the first half of the year towards the end of the year. With this assurance the share prices went up by 4.5 % to $ 1.76. However, on November 09, 2006, the Managing Director of Funtastic made the announcement that the company’s forecast of the results would not meet market expectations. He also announced that the company would be launching a cost cutting program to alleviate some of the pressure of a tough retail trading environment and the cost cutting program was expected to result in a saving of $ 5 million for 2007. This announcement as compared to the earlier statement made in the Annual General Meeting affected the confidence of the investors about the financial position of the company and has resulted in the decline of the share price.
3.. The profits of the company for 2005 for $ 21.6 million and the company is expected to post a net profit excluding one-off restructuring costs of $ 12million to $ 15-16 million which is far below the average analyst forecast of $21.3 million for the year 2006 and the earned profit of $ 21.6 million for the year 2005. The analysis of these earnings figures naturally would have triggered the fall in the price of the shares of the company.
2.2 ADVANTAGES OF THE STRATEGIC ALLIANCE FOR FUNTASTIC LTD
Company Funtastic Limited will gain the following advantages as a result of the strategic alliance with ABC learning centres limited.
The strategic alliance will offer a competitive advantage and future growth opportunities to Funtastic, since the company is getting a new product line added to the company’s business with assured sales to all the learning centres of ABC. This would greatly result in the increased turnover and the resultant profitability of the company.
The Judius group of companies is expected to have a pre-tax earning of $8.2 million for the year 2007 which is going to come in handy for Funtastic for settling some of its short term and medium term liabilities.
The purchase consideration of $ 5 million payable in cash by ABC would also help Funtastic to compensate the reduction in the expected profits and thus would increase the cash flow of the company in the immediate future.
The purchase consideration made for acquiring the business of Judius is not very excessive considering the fact that the acquisition price of $ 44.6 million equated to a forecast EBITA multiple of 5.4 and Judius is expected to be Earnings per share accretive even from the first year.
Other advantages which result from this strategic alliance are the potential for direct marketing opportunities, potential operational efficiencies through improved warehouse and logistic functions, integration benefits and the alliance has created a significant opportunity for fantastic to diversify its earnings base.
2.3 DISADVANTAGES OF THE STRATEGIC ALLAINCE FOR FUNTASTIC
The strategic alliance with ABC learning centres limited is also disadvantageous to Funtastic because of the following considerations:
1. With the decline in the share value, ABC is holding in Funtastic would go up 22% instead of the calculated 19.7% at the time of the takeover bid. This would trigger a full takeover bid as originally it was planned that ABC will hold 19.7% as the maximum shareholding.
2. The purchase consideration of $ 44.6 million is being taken by ABC by way of shares in Funtastic at an agreed issue price of $ 1.625 per share and a cash consideration of $ 5 million. The cash equivalent is not adequate enough to settle the short term liabilities of Funtastic as there are amortization losses and one-off expenditure to be written off against profits.
3. For Company Funtastic, although the sales of Judius products to all ABC centres is assured, the company has to continue to pay to ABC a percentage of revenue on sales made to and through ABC centres. This is a commitment which will reduce the profitability to fantastic resulting from the additional sales of Judius.
3.0 EFFECTS OF THE STRATEGIC ALLIANCE ON ABC LEARNING CENTRES LIMITED
While resulting in a capital gain for company ABC, the strategic alliance has made the following advantages available to the company.
1. The proposed sale of Judius and the non-binding long term arrangement for
the supply of Judius products to ABC centres at commercial rates is a distinct advantage. The company will be benefited as if Judius is still a commercial division of ABC.
2. In addition to the ensuring the supply of Judius products to its own centres,
ABC is going to get a certain percentage of revenue on sales made to and though ABC centres. This will enhance the profitability and the resultant cash flow of the company.
3. The company has acquired 19.7% shares in Funtastic Limited and the even
though the value of these shares is at lower ebb now, the business of Funtastic will get revived in the next two to three years because of the additional product line of Judius. This will enhance the market value of the shares held by ABC in Funtastic and the investment will prove worthy then.
4. Because of the decline in the share value the percentage holding of ABC may
go up than the anticipated 19.7% and it may trigger acquiring the controlling interest in Funtastic Ltd by ABC which will be a distinct advantage for ABC.
The strategic alliance also has created certain disadvantages resulting to ABC.
1. The decision to sell the Judius division which was acquired only in 2005, may
not be looked into favorably by the shareholders of ABC, although the company may claim that the alliance has been worked out to the advantage of ABC.
2. The investment of $ 44.6 million in Funtastic , a company whose financial situation is in a downward trend again will not be looked upon with favor by the shareholders which may result in lowering the share value of ABC. However it may not make a significant impact in the share price as the company is otherwise performing well.
4.0 COMPARISAN AND ANALYSIS OF KEY FINAICIAL INDICATORS OF FUNTASTIC AND ABC
In order to arrive at a decision on the investments of the shares of both Funtastic and ABC as to whether to buy, hold or sell the shares in the respective companies, the key financial performance indicators have to be analysed. The key financial indicators of the companies are listed below:
Market Cap $ 3.01 billion $ 183.87 million
EBIT Margin 23.22 % 10.08%
Dividend Yield 1.84 4.69
Earnings Yield (Forecast) 5.07 15.52
Earnings Yield (Estimate) 4.04 13.86
Earnings Yield (Actual) 3.64 11.70
Price/Earnings (Forecast) 19.74 6.44
Price/Earnings (Estimate) 24.74 7.21
Price/Earnings (Actual) 27.51 8.55
Price/Sales 5.06 0.51
Price/NTA 20.11 4.07
Interest cover 0.06 0.09
Current Ratio 1.81 2.78
Beta 2.05 1.13
Price change 2.97 0.36
PV of $ 1000 (1 year) 1076 767
On a careful analysis of the above financial indictors, the following arguments can be drawn in favour of and against the shares of both the companies:
The current ratio of the company ABC stands at 1.81 whereas; the ratio for Funtastic is 2.78 which signify that the current liabilities of Futntastic are in a higher level as compared to ABC. Company Funtastic requires the infusion of liquid funds immediately to take care of the existing current liabilities. On the aspect of liquidity of assets the shares of company ABC is preferable to Funtastic.
2 The EBIT margin of ABC is also high signifying that the company has an impressive profitability. This makes the company’s shares attractive. However the dividend yield and earnings yield of company Funtastic show that the company’s shares are preferable for investment because of a consistent dividend payment records.
3 Company Funtastic stand in a favourable situation for investment in the shares of that company when the indicators of price to earnings and price to sales are taken into account. Especially the Actual PE of 27.51 for ABC and 8.55 for Funtastic make the shares of Funtastic attractive for investment.
4 Another important consideration for investment in shares of any company would be the volatility of the shares which phenomenon accounts for the price fluctuations. This is measured by Beta risk factor. The beta risk factor of above 1 makes the shares of the company highly volatile and risky for investment. Considering this aspect, the shares of ABC are more volatile than those of Funtastic and hence are more risky for investment. On this ground the shares of Funtastic are preferable for investment. The price change percentage also advocates this conclusion.
5 The current problems of Funtastic which are purely temporary due to shortage of funds have made the company pay lower return to its investors. This situation is also due to the extraneous market conditions on which the company has no control. This has resulted in the lower present value of $ 767 for every $ 1000 invested in the company. But this figure is more at $1076 for ABC. However, with the remedial steps like cost cutting which is going to provide a reduction in expenses of $ 5 million and the strategic alliance entered into with ABC will see that the company Funtastic turns around in the nest two to three years to come.
In the light of the various criteria for and against buying, holding or selling the shares of the companies ABC and Funtastic, supported by the key financial indicators of both the companies, it may be concluded that:
1. To buy the shares of Funtastic which are at a low level now as the company
has a consistent track record of dividend yield, although the present
financial position of the company is not all that impressive. The shares can
be acquired as a long term investment, rather than investing in ABC shares.
2. The holding of shares in Funstastic can be continued as a long term
investments, as in any way the share prices presently are not conducive to
sell the shares.
3. The holding of shares in ABC may be continued.
1. < http:// www.asx.com.au/asx/research/Companyinfosearch results.jsp?searchBy=asxCode&allinfo=&asxCode=abs >
2. < http:// www.asx.com.au/asx/research/Companyinfosearch results.jsp?searchBy=asxCode&allinfo=on&asxCode=FUN >
3. < http://factiva.com >
4. < http://EBBSCOhsot.com >
5. < http://ABS.com >
6. < http://FUN.com >