Response to Hostile Take-Over Bid by Sci

TO: Ray Leowen, Chairman & CEO

FROM: Neil Joshi, Strategic Analysis Consultant

DATE: September 19, 1996

SUBJECT: Response to hostile take-over bid by SCI.

The recommendation sought in this memo is in response to the hostile take-over bid by SCI. My recommendation after a detailed analysis is to not sell the Loewen Group to SCI conditional upon adoption of a new strategy to improve operations, halt the growth by acquisitions strategy and debt restructuring. If these conditions cannot be satisfied, the bid by SCI to acquire Loewen Group should be accepted. SCI’s core values are not coherent with Loewen’s values

The Leowen business model has been acquisition of small family owned funeral homes and cemeteries, acquisition of predominantly large, multi-location urban properties and improving the revenue and profitability of newly-acquired and established locations. Loewen Group became North America’s second largest funeral home consolidator through an aggressive acquisition strategy, which started around 1990s. This aggressive acquisition strategy required Loewen Group to take on massive debts. During one such acquisition, Leowen Group got embroiled in a court hearing, where a jury verdict was reached against the Leowen Group resulting a fine to the tune of half a billion dollars. Although the jury verdict was changed and the fine ultimately lead to settlement, where the legal settlements amounted to almost $185 million. The Leowen Group took a massive hit in the stock market post an initial jury verdict.

Upon further analyses, we find that except for the legal settlements incurred in the year 1995, Leowen Group did not face any major financial difficulties and this turbulent year gave an opening for competitors to capture the business when it is in a difficult situation. The Leowen Group is very well placed within an industry where the threats of new entrants are low due to high barriers to entry, the buyers do not hold a lot of bargaining power, Leowen holds a lot of power with suppliers due to scale of economies, the threats of substitutes are low as Loewen Group offers everything there in the death care industry and it faces competition from SCI, its main competitor.

The financial analysis of the firm gives us the following information –

1. The gross profit margin for Loewen on funeral homes is higher than industry average but on cemeteries, it was on decline since 1990. Gross profit margin on Cemeteries Loewen’s main competitor, SCI, has been growing at very high rate.
2. The operating profit margin dipped by 2% for the year 1995 but other than that Loewen has been improving on efficiency overtime.
3. The return on total assets for Loewen has been consistent for over 4 years up till 1995, where we saw a negative ROA of 3.4% due to legal battles. Loewen has been performing better than SCI whose ROA has been on the decline for over 5 years.
4. The return on equity for Loewen had been consistent and growing till 1994. In 1995, the ROE went down to -12.4%. in comparison, SCI’s ROE has been on the decline from 1990, reaching 9.3% in 1995.
5. The credit ratio for Loewen dipped below 1 to 0.79. This is a bad indication suggesting that all future investments must be reduced or short-term debt converted to long-term debt. Loewen Group faces a risk of bankruptcy or dilution if necessary steps are not taken.
6. Leowen Group has maintained a high leverage ratio, around 2, but for the financial year 1995, the leverage ratio reached 2.68 indicating a very high risk to the business.

The recommendations are as follows –

1. Halt/reduce future acquisitions/investments.
2. Debt restructuring – convert short-term debt to long-term debt.
3. Improve operating profit margin by improving efficiency and making the company lean by trimming excess fat.

...