American Home Products

Corporation -
Capital Structure Decisions
Ramazan Sahin, Monika Słowik

2017
 Agenda
Company introduction

Company performance

Analysis of the risks related to debt

Change proposal

Company’s later action

 History

Founded in 1926 from combined resources of Sterling

Products and Household Products
 Product lines
Prescription Drugs

Packaged Drugs

Food Products

Houseware and Household Items

 Description of the company

• Successful company with an inefficient

financial structure
• End of the 1980, almost no debt and cash
balance equal to 40% its net worth
“I just don’t like to owe money”
- William F. Laporte
AHP Chief Executive
 Corporate Culture

Authority centralized on the chief executive

Frugality and tight financial control

Conservatism and risk aversion

Ranked last among drug companies by the analysts

 Performance

● Performance between 1972-81

 Capital Structure(shortly)
Total Liabilites X
Long term debts…….A Capital
Owner Equity Structure
Common Stock……..B
Retained Earning…….C
The capital structure is how
a firm finances its overall
operations and growth
by using different sources of funds.
Companies that use more debt than equity to
finance assets have a high leverage ratio and an
aggressive capital structure
 Things to consider

Business Financial Financial Bond

Risk Risk Leverage Rating
Low Financial and Business Risk

Financial Business
Risk Risk
 Low Financial and Business Risk
● Growth in Sales
● ROE
● ROA
● Profit Margin
● Debt Ratio
● Debt to Equity
 Financial Leverage
●Debt-Equity Ratio
●Debt Ratio
●Degree of Financial Leverage (DFL)
 High Finacial Leverage
Advantages of • Lower tax expense
high financial • Adds value to company
leverage (EPS, DPS)

Disadvantages
of high financial • Higher interest
leverage
 INTEREST
INTEREST EXPENSE

122.9
87.8
52.7
2.3

ACTUAL 1981(%0.9) 30% OF DEBT 50% OF DEBT 70% OF DEBT

 Bond Ratings

Actual
Debt ratio 1981(%0.9) 30% of debt 50% of debt 70% of debt

Times interest earned ratio (EBIT/interest) 415.13 17.50 10.50 7.50

Rating based on Moody's interest coverage medians Aaa-Aa Aaa-Aa A Baa

Rating based on S&P's interest coverage medians AAA AAA AAA/AA AA/A

Synthetic rating AAA AAA AAA AA

 Low Financial Levarage
Disadvantages Advantages of
of Low Financial Low Financial
Leverage Leverage

Missing forgoing
Low interterest
opportunies for Low Risk
expense
future growth
 Conclusion

• Which proposal rate is best for

company ?
• What are the advantages and
disadvantages of this rate ?
Which proposal is best for
company ?

30% debt ratio could be an

appropriate choice
What to do with the money?
• Repurchase stocks
• R&D
• Other
 Company was renamed to Wyeth
in 2002
It was purchased by Pfizer in 2009
Nowadays operates under Nestle
Thank you for your attention!
 Sources
https://www.moodys.com/sites/products/Defau
ltResearch/2005700000436062.pdf
http://pages.stern.nyu.edu/~adamodar/New_H
ome_Page/valquestions/syntrating.htm#_ftn1
http://hbswk.hbs.edu/archive/4769.html