Sealed Air Corporation’s Leveraged Racialization (Team 1)
5. Did the constraint on capital expenditures imposed by the bank lending agreement benefit or harm the company? Do you believe managers will be successful in renegotiating this covenant?
Putting a limitation on the investment in fixed assets while planning a major change in the manufacturing system can be harmful. Dunphy and Cruiskshank tried to view this as an opportunity to prioritize expenditures, but our team believes that this covenant was not beneficial for the company. If the new manufacturing system had not shown quick results, the company would have encountered difficulties. As a result, we disagree with Team 3’s response to this question. On the other hand, regarding the possibility of renegotiating this covenant, our team agrees that it is difficult to evaluate. The company took a significant risk and ultimately succeeded by the end of the year, allowing them to potentially renegotiate. However, these outstanding results were not initially apparent, so it is advisable to remain skeptical about renegotiating before positive outcomes are evident.
Would an increase in leverage be beneficial for all companies? What are the reasons for or against such an increase?
Leverage varies depending on the industry and company policy. Software companies like Microsoft typically choose to leverage less and maintain a cash reserve equivalent to one year’s expenses (including salaries and overhead). This is due to the potential risks associated with rapid changes in the software industry. On the other hand, manufacturing companies tend to utilize more leverage compared to software companies. It is crucial for the market and stakeholders to be aware of the company’s specific policy regarding leverage.
7. What were the reasons behind Dermot Dunphy, the CEO, deciding to change the company’s priorities and incentive structure after the recap?
Another crucial aspect of recap was the motivation of the organization. To strengthen and motivate the organization, Dunphy emphasized the change of priorities and incentives, not just verbally but also in action. They implemented a bonus plan for managers based on EBIDTA, inventory turns, receivables, and working capital instead of EPS. This led to managers focusing on cash flow from operations, providing a better understanding of performance. Additionally, they placed greater emphasis on stock ownership for employees after the recap, as Dunphy believed it would improve company performance. Prior to the recap, the stock remained stagnant, but Dunphy predicted that after the recap, there would be a conviction that the stock would rise, particularly among the younger generation.
8. Should managers be concerned about the complete turnover of Sealed Air’s investor base after the recap?
Sealed Air’s main investor base consists of institutional investors such as mutual funds and pension funds. These investors prioritize sustainable returns and long-term investment. However, when Sealed Air decided to increase its debt, the company’s financial structure underwent a significant change. Previously a very strong company, it became weaker. As a result, institutional investors were forced to sell their stocks due to policy restrictions. This could also impact manager performance if market capitalization is used for evaluation. We also agree with team3’s point that Sealed Air should be concerned about a new type of investor: speculators who are primarily interested in short-term returns. Such investors can contribute to stock price volatility and pressure the company to prioritize short-term profits.
