Case Discussion: Mercury Athletic Footwear

Case： Mercury Athletic Footwear

1.    Is Mercury an appropriate target for AGI? Why or why not?

Yes, Mercury is an appropriate target for AGI.

The AGI faces these problems:

1. The size of the firm is small that its has low competitive advantage;
2. In order to protect its brand, it sells does not through discount retailers, which decrease the sale growth;
3. It receives continuing pressure from suppliers and competitors.

Mercury, is a footwear company that aim at youth market and does not care about its brand image as much as AGI does. Also Mercury enjoys a high growth rate. As a result, the acquisition helps the AGI to increase its sales rath and growth rate.

Also, these two firms have lots of similiarities. First, they are in the same industry, footwear. Second, their manufacures are both in China. It helps AGI to increase its competive advantages by increasing its size.

Further, the acquisition has the value of possible synergies. AGI’s inventory management system coule be used by Mercury and reduce Mercury’s DSI. Also the women’s casual  footwear line might be merged into AGI’s line.

2.  Review the assumptions for projecting the cash flows of the project? Are they appropriate? Would you make any changes?

The assumptions for projecting the cash flows of the project:

1. Women’s Casual line will be shut down in the first year of aqcuisition.
2. The average Operating Income in next 5 years will be 8.34% for Men’s Athletic; 2.25% for Men’s Casual; 8.88% for Women’s Athletic.  
3. Overhead-to-revenue ratio would conform to historical average.
4. After aqcuisition, no independent balance sheet for Mercury.
5. Mercury would have the same leverage ratio as AGI.
6. Mercury would be subject to the same marginal tax rate as AGI at 40%.

Our judgements on these assumptions:

1. The first assumption is appropriate, since women’s casual is making a loss and the operating income is negative in 2007. Wounding off women’s casual would help to achieve a lower aqcuisition price and is better to fold this segment into AGI’s.
2. The second assumption is not appropriate. Why Mercury, a firm sold by WCF, will have a robust growth in its Net Income? It is too optimisitic to make this assumption, thus would cause higher FCFE that affects the projection of the firm value.
3. We need to adjust the third assumption. After women’s casual is closed down, the overhead expense will go down and the revenue may go down. So the ratio may need adjustment considering on this situation.
4. The assumption is appropriate because it is an aqcuisition.
5. This assumption is not appropriate. From 2004-2006, Mercury has no long-term debt and is mostly financed by own’s equity. While, AGI has large amount of long-term debt. So, they can have different leverage ratio.
6. The federal corporate income tax rate is progressive and jumps from 15% to 25% after the first $50,000 taxable income. As a result, this assumption is not appropriate based on the different federal corporate income tax rates.

3.    Estimate the value of Mercury using a DCF approach using the base case projections. Be prepared to make additional assumptions.