Dow's Bid for Rohm and Haas Case Analys

Dow’s Bid for Rohm and Haas Case

1. Why does Dow want to buy Rohm and Haas?

First, Rohm and Haas is a strong operational and strategic fit for Dow, This combination brings together best-in-class products and technologies, broad geographic reach, and strong industry channels to creative and outstanding business portfolio with significant growth opportunities.

From the financial aspects, the Rohm acquisition would change Dow’s earnings profile by increasing the growth rate and reducing cyclicality, thereby recasting Dow as an” earning growth company”.

Besides, in term of value creation, growth synergies (expended product portfolios, innovative technologies, increased geographic reach, and improved market channels) were expected to generate $2.0 billion to $2.6 billion. The cost synergies would also generate significant value.

Was the $78 per share bid reasonable?

We use discount cash flow method to calculate the intrinsic value of the R&H company.

We use the value of growth rate and future total free cash flow from 2009 to 2012 in exhibit 7a (original forecast) and also the weighted average cost of capital in exhibit 7b. We choose the rwacc at 8.7% instead of 8.5%, because the tax rate (26%) in the former one is in accord with the tax rate used in the calculation of future free cash flow. The free cash flow from 2009 to 2012 are respectively $504, $608, $747, $897 (in millions), the rwacc is 8.7%, and the growth rate is 2%. The result of Rohm’s firm value calculation in 2008 is $11983.71 million. Because the equity-to-value ratio in 2008 is 72% according to exhibit 7b, the free cash flow to equity is $8628.27 million. Dow originally intended to acquire 195.2 million shares of Rohm (Exhibit 1), thus the intrinsic value of R&H stock is about $44.2 per share.

According to the article, we choose the lower of $2.0 billion-$2.6 billion as additional present value of growth synergy. Besides, a $1.3 billion one-time cost is used to generate the cost synergy for $800 million annually. The annual cost saving of 800 million will be considered as a profit, thus the value should be net of tax. We consider the cost synergy as an annuity which will begin in two years after Dow complete the acquisition, and we calculate the present value of the cost synergies in 2008 at 8.7% discount rate and a tax rate of 26%. Thus, the added value of R&H stock is about $33.08 per share.

In conclusion, the total stock value of R&H company is about $77.28 per share. Because the valuation of cost synergies and the growth synergy are both subjective estimates, the real value of stock might be lower or higher than $77.28. To be conservative, Dow choose the price of $78 per share, which is reasonable for this deal.

-----------Why we don’t use FCFE?

The formula of FCFE calculation is: FCFE= FCFF- interest expense (1-t) + increase in net debt. However, the value of future net debt and also interest expense after 2009 of R&H are not available in given materials. So we choose FCFF method instead of FCFE.