Executive summary
The Union Carbide Deal presented critical issues of corporate survival and renewal using the capital markets. Union Carbide was one of the largest companies in America at the time it experienced financial problems and a severe blow to its business operations. The case presented below analyses Carbide’s attempts to overcome the challenges by involving strategic financial intermediaries, the First Boston Investment Bank and the Morgan Stanly. The case points to the alternatives that the company had to weigh to navigate through the financial difficulties in the capital markets and the tradeoffs. Through the various alternatives, a realistic perspective on financial management amid a crisis was illuminated and the role of the investments banks in assisting Carbide to adopt the right solution. In the analysis of the capital markets issues and the fundamental financial options, the report focused on three chief participants, which included First Boston (Competitive Investment Bank), Morgan Stanley (Major Established Bank), and Union Carbide.
To adequately address all issues that affected the company, the report looked at three phases in the company’s situation including crises (Bhopal as well as GAF takeover attempt), the financial stress of the company (debt burden), and the financial reconstruction of the company.
Situation Analysis
Carbide had a lot of difficulties in successfully running its business in a way that could enable the company to have enough returns to meet its debts and manage demands. In addition, the company had many operational crises, as well as a difficult financial position that threatened its market share. For example, there was the problem of the Bhopal crisis that came up following the leakage of poisonous gas at one of the company’s plants in Bhopal. Secondly, Carbide was under pressure following the takeover attempt by GAF, which was triggered by an announcement that Carbide was in a great financial crisis. In addition, Carbide was undergoing a difficult period as a result of a debt burden that caused financial stress to the company.
Thus, to restore the company to its financial status, there was the need for Carbide to undergo financial restructuring whereby recapitalization was the key agenda. However, the financial restructuring was hard considering the debt burden that the company had. Despite having several issues to deal with, it was important for the company to assign priority for each of them. The gas leak in Bhopal affected the company’s stock prices and its creditworthiness. The company thus had a priority to ensure that its stock prices stabilized, as well as restoring its creditworthiness. As for the GAF takeover attempt, the company was tasked with the responsibility of restoring the financial status of the company by buying back stock to counter the takeover attempt. Generally, there was a need for the company to eliminate its debt burden as a strategy to restore its financial status and attain market restructuring.
Perception of Interest
The financial state of Carbide drew many participants including Morgan Stanley, which was an established bank, the First Boston, a competitive investment bank, and many others. As the company worked towards its reconstruction, it had several interests to meet especially through the help of First Boston and Morgan Stanley investment banks. First Boston and Morgan Stanley had different interests in the endeavor to help Carbide to restore its financial status. For example, Carbide aimed at using the two participants to make sure that its interest expenses were not high by ensuring that its current debt was substituted by a lower-cost capital. Secondly, the company was seeking help from the two participants to relax the debt covenant considering that it was very hard for such an activity to be successful without the consent of 80 percent of the bondholders. In addition, through the help of First Boston and Morgan Stanley, Carbide wished to restructure the company to offer a “clean slate” to Kennedy Robert following his state of discontentment with the capital structure.
First Boston Investment Bank had a special interest in Carbide’s predicament. To begin with, the bank was willing to help Carbide as a strategy to ensure that they maintained a relationship that could enable them to engage in future business deals. In addition, the involvement of First Boston in Carbide’s affairs was a strategy to earn a considerable amount of revenue from some of the transactions that the bank could make in the rescue process. Morgan Stanly, likewise by helped Carbide invest in its automotive products aimed at getting attention from the company and consequently to lay a foundation for many more deals to come.
Capital Markets Approaches
The financial position of Carbide was affected by many factors and characterized by several phases. For example, the Bhopal crisis/ GAF takeover action, the company’s state of financial stress following the high company’s debt burden, and the ultimate financial restructuring were issues of immense effect on Carbide and its operations.
The Bhopal crisis came up following the leakage of poisonous gas from one of Carbide’s plants. The leakage of this gas claimed the lives of about two thousand citizens, an issue that adversely affected Carbide Company, especially on the financial side of the company. Following the gas leak, it was likely that the company was on the verge of becoming bankrupt. For this reason, there was a negative effect witnessed in the stock prices of the company, as well as the company’s credit rating. Such a situation rocked the financial status of Carbide such that there was a takeover attempt from GAF. GAF was a very small company and expressed a desire to buy Carbide’s stock.
The Bhopal crisis and the GAF takeover action forced Carbide to engage in-stock purchases that required the company to dispose of a primary part of the company’s business. In the end, Carbide was left in a state of financial position that was shaky. To restore its financial status, the company engaged in business deals such as issuing a fixed-rate debt of $ 2.5 billion. For this reason, the company’s debt to equity ratio increased from 39% to 72%. As such, the company had to pull resources to take care of the debt, and thus credit rating of Carbide fell marginally, which moved the company to a type of “non-investment grade” company. The Bhopal crisis and the GAF takeover attempt landed the company into a very large debt burden. The debt burden adversely affected the operations of Carbide given that the covenants acquired following the debt burden were highly restrictive. For this reason, Carbide decided to involve more investment banks in its reconstruction, which strained the company’s finances further.
Effectiveness of Actions
Carbide faced a hard time dealing with the takeover threat, debt burden, and the restoration of the company’s financial status. As such, the three participants in the case study took substantive positions regarding the issues at hand. For example, the company took several actions towards the restoration and the protection of its status within the market. To protect itself from the takeover, Carbide decided to sell a portion of its business as a strategy to buy stock and increase its already weakening stock price. In addition, Morgan Stanly and First Boston investment banks took substantive positions to help Carbide. Morgan helped the company in divestment while First Boston provided a loan and financial strategy towards Carbide’s reconstruction. Morgan’s position and actions were very important in that Carbide were able to deal with the Bhopal crisis and the GAF takeover attempt successfully following the bank’s financial advice. The action taken by First Boston was appropriate because it eased the financial problems. Carbide was able to overcome the debt burden, and thus the company was back to its financial position. For this reason, First Boston’s actions and the position the bank took were helpful, the strategy adopted worked well and Carbide was able to alter its capital structure within three months. Consequently, Carbide’s objectives of less restrictive covenants, reduced expense on interests as well as a lower debt level were achieved.
Capital Market Options
Even though Carbide was a leading company, it did not often participate in capital markets. For example, the company’s offering had been in1917 and since then, no equity offering was issued by the company. It is worth noting that several of the company’s debt offerings were placed secretly with investors like insurance companies as opposed to involving investment banks and selling them to public markets. However, the company could make use of some capital market approaches to meet its needs in the Bhopal crisis and GAF takeover threat, the debt burden, and the financial reconstruction. For example, in the case of the GAF takeover, the company had several options including the one of denying the takeover. Alternatively, the company had the alternative of accepting the takeover. If Carbide had accepted a takeover by GAF, it would not have landed itself in such an enormous debt burden. However, accepting the takeover could have implied Carbide’s cessation of business activities since most of its operations could have been transferred to GAF.
In dealing with the financial debt burden, the company considered consulting investment banks such as First Boston and Morgan Stanly. The weakness related to this kind of strategy is that the different participants had different interests that might have not been in line with the company’s needs. On the other hand, the involvement of many commercial banks in such a case was a good strategy because it brought a pool of ideas on how to go about Carbide’s financial stress. In addition, the different parties could have different interests as happened in the case of Morgan Stanly and First Boston investment banks. For the company’s reconstruction and recapitalization, the company considered the use of First Boston investment in helping it achieve its goals. The use of First Boston Bank was appropriate since the bank had the knowledge and expertise concerning any form of financial advice. In this phase, the company considered the option of reducing the interest rates and relaxing the debt covenants. Through such a strategy, Carbide was able to get back on its track. However, the challenging part was that for the company to relax the debt covenants, it needed the consent of 80 percent of bondholders.
Evaluation
The Union Carbide case involved two investment banks and Carbide Company. The participants played different roles in their varying positions. For example, Morgan Stanly played a major role in helping Carbide meet its interests. As such, it suffices that Morgan Stanly contributed about 35% in estimation considering that the bank was of much assistance when it came to Carbide’s decisions especially touching on the company’s financial strategies. For example, Morgan Stanly’s numerous studies aimed at reaching the right financial decision for Carbide considering the financial issues the company was going through.
On the other hand, First Boston was equally instrumental in helping Carbide. Its contribution is estimated to be over 50%. This could be attributed to the fact that the managing director of First Boston was assigned the responsibility of watching for the company’s opportunities. First Boston investment bank was involved in major activities of the company including the purchase of a ship for Carbide. In addition, First Boston investment bank was very instrumental at a time when Carbide wished to swap its interest rates. Carbide had anticipated that there would be a fall in the interests rates and thus needed to get advice regarding the process of swapping its interests rate obligations as well as being advised on the suitable price that aligned with its financial position. Moreover, First Boston Bank helped Carbide meet its objectives of relaxing the debt covenants and in reduction of the company’s expenses on interest by offering a suitable and low-cost capital to replace the high-cost debt that the company had on its books.
Conclusion
From the foregoing, it is evident that the investment banks were very instrumental in helping Carbide to meet its interests. In addition, as the banks got involved in the company’s affairs, they too succeeded in meeting their interests. Based on the resolutions adopted for the issues, it is recommendable that Carbide and the investment banks chose the right course for the problem that was at hand in meeting the interests of the investment banks and that of the company.
In the course of the company’s activities, Union Carbide was no longer independent since it was acquired by Dow Chemical. Even though it would appear that the acquisition was a result of errors in the period of the case, the acquisition was inevitable considering that the crisis period had weakened the company such that it could no longer survive the business environment during the time of debt burden. Arguably, no alternative approaches taken could have made the company avoid the acquisition. The alternative approaches could include more borrowing from more investment banks, which in turn could have led the company into more debts with the different banks. Such options imply that Carbide was to lose its creditworthiness in the face of most lending institutions; hence, downgrading its creditworthiness.