Electrolux & GE Appliances Case

Considerations and Assumptions for the Valuation

We made several adjustments to the presented valuation in the case. These include the:

1) Forecasting Period
The period in which forecasts were made extend to a total of 5 years, being from 2015 up to
2019. Throughout this period the level of maturity may be reached on which the terminal value
is calculated. It is also important to remark that the values for 2014 already contained
predictions for its second semester, however due to its proximity in time the accuracy in its
values are greatly higher, allowing for a full 5-year forecast beginning in 2015. A period
beyond 2019 would’ve been too far-fetched due to higher risk of drastic market changes
impacting future cash flows, therefore disregarded in order to maintain a higher degree of
accuracy.

2) Growth Rate
From the years 2015 and 2016 we forecast a growth of 2.5% of revenues, which later declines
to 2% throughout the years 2017 to 2019. The perpetual growth rate is assumed to be 2%, to
reflect the high level of competition market and maturity of the market in the U.S. This
percentage is also in accordance with past levels and expected inflation rate of the U.S. A
similar logic was followed for the growth and perpetual rate for Mabe, but based on the Latin
American region. As contrast, in the case they assume a growth rate from -1% to 1% to limit
the impact of adding the terminal value to the valuation, which is a flawed rationale as it does
not represent the overall market and economic prospects.

3) Capex
As GEA has continuously re-invested its capital, especially in its North American operations,
a conservative calculation for CAPEX was made: 5% of total sales. It is deduced that these
reinvestments were made at the end of the year, post-sales.

4) Depreciation
Depreciation for reinvestment is calculated for the year following the first reinvestment period
(2016). Depreciation is also calculated over the period of 12 years, as it is believed that much
of the equipment/machinery purchased may have a life between 10-15 years, therefore 12 years
seemed to follow a fair, conservative approach. We have also estimated $50 million as salvage
value after the depreciation period.

5) Net Working Capital

The current NWC is equal to 11 days, which matches that of the competition, but GEA expects
to achieve “operational excellence”. Therefore, we have reduced the days through time,
reaching 9 days of sales in the year 2019, which reflects GEA’s expectations. Also, the full
year was set at 355 days due to the 10 federal holidays in the United States, main market for
GEA. Due to similar number of national holidays in Latin America, Mabe’s main market, and
for consistency, the full year period for Mabe’s NWC was also set at 355 days.

6) Weighted Average Cost of Capital

WACC was set at 10% due to Electrolux’s finance strategy (See Exhibit 7).

7) Terminal Value
For GEA, after the 5-year forecasting period, a terminal value was made, growth was set at
2%, following a conservative approach as the historical inflation rate in GEA’s main market,
USA, is of 2-3%. On the other hand, for Mabe, the perpetual growth rate was set at 3.5% due
to Latin America’s higher level of inflation, typically inherent in emerging markets, however
still maintaining a conservative approach. No terminal value was included for the synergy
calculation.

The results of the valuation, including the adjustments, can be depicted in the following chart:

Valuation (Million US$)

$12,000.00

$10,000.00 $9,568.00

$8,000.00

$6,000.00

$3,616.90
$4,000.00

$1,612.36 $1,444.91
$2,000.00
$559.63
$-
Electrolux GEA alone Mabe Synergy Total

Financial & Strategic Considerations

In order to understand if Electrolux should or not make an offer for GEA, it is important to
conduct a relevant strategic and financial analysis of both companies separately and combined.

In general, the appliance market is relatively cyclical dependent on the economy and highly
concentrated in few retail channels. Moreover, revenue in the market as decreased 25% in the
last 9 years. Adding to the increasing competition from Asian players, it can be considered as
a very competitive landscape to operate in. With respect to GEA, the unit has seen little growth
in more than two decades. The GE division has also achieved low profitability and was
considered one of the least profitable among its business. Following the same pattern,
Electrolux did not achieve a significant growth and thereby, the acquisition could be seen as
an opportunity to increase the prospects for the corporation.

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Based on our conservative valuation of GE Appliance, we have estimated that synergies of
$560 million can be created. Moreover, our estimates also show that the GEA stake on Mabe
is highly valuable (worth about $1,445 million). Besides from this estimation, the stake at Mabe
could be strategically beneficial, considering that there is not much growth potential in the US
market and in Electrolux main market of Europe, as this firm is a market leader in multiple
Latin American countries. Although reorganization expenses will be incurred if GEA was to
be acquired, these are necessary for the creation of synergies in the future. We have use the
estimates of reorganization costs of $150 millions in the first two years of the acquisition (2014
and 2015), in contrast to a projected $150 millions of cost savings in 2015, followed by
reductions of $300 millions. Based on this, the synergy would support the acquisition. It should
be noted that this is a conservative estimate too, since tax and financial synergies have been
excluded from the forecast. Of course, these synergies cannot be guaranteed, but based on our
valuation, we have estimated that the value of GEA plus its stake on Mabe is worth more than
what analysts have predicted (about $3 million). Therefore, the acquisition of GEA is not only
based on the synergies, which are not guaranteed, but also the fact that GEA is undervalued,
which will depend of course on the actual purchase price, but should at least be considered by
the management team.

Moreover, one should also take into account the strategic analysis of the acquisition. In this
regard, there are four important aspects to consider. First, GEA and Electrolux have different
geographic presences. GEA’s revenues streams are 90% from the US, while for Electrolux it
is a more diversified reach. The latter is present in more than 150 countries with only 29%
coming from North America. Therefore, there is potential for synergies by opening a market
for Electrolux, in the most profitable appliance market worldwide and reach a total of 47% of
its revenue streams from the US market.

Second, GEA and Electrolux have business segments that overlap, however not completely. In
the case of GEA with products on cooking, refrigeration, laundry, dishwasher and home
comfort and Electrolux on cooking and refrigerators/freezers, with smaller shares in laundry
appliances. Nevertheless, since both companies had a different positioning of its products, GEA
as mid-price segment and Electrolux a premium-brand, some pros and cons could be identified:
Pros:
i. Increase in revenue and market share (estimated 40% of total US appliance market);
ii. Leverage brand awareness with different types of customers, considering the different
products positioning and strong GE brand.
Cons:
i. Possible cannibalization in the overlapped business segments in the US, however due
to its different position it might not be significant.

Third, GEA and Electrolux have a complex operational network both for production and access
to distribution channels. GE has recently invested $1 billion in improving GEA’s
manufacturing capabilities, which has optimized costs, product control and innovation
competences. Also, GE has its own distribution and logistics network with direct one-step
retail channel strategy. Moreover, Electrolux has been struggling to reduce its costs, even

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though, it switched facilities to eastern European countries (60% of the production). Taking
this into consideration, it is possible to identify the following:
Pros:
i. Streamline the production to increase efficiency while reducing direct and indirect costs;
ii. Concentrate suppliers and negotiate discounts based on larger quantities;
iii. Expand its distribution channels while taking advantage of the direct one-step retail
channel strategy.

Forth, GEA and Electrolux have different cultures and managerial capabilities which should
be taken into account. GEA is part of GE, an iconic American brand, that mirrors the American
culture. Electrolux on the other hand enjoys an international culture where English is the
communication language. Moreover, both companies have strong managerial capabilities due
to its strong talent. Notably, the managers of Electrolux have successfully integrated previously
acquired companies.
Pros:
i. No apparent culture clash due to the global culture of the acquirer.
Cons:
i. No evidence of streamlining of managerial staff owing to the very capable managers at GE.

Final recommended offer price

Based on the current financial situation of GEA, if we were to propose to make an offer for the
acquisition of the company to form a synergistic merger, we would make a final offer price of
3-4 billion for the company. The reason for the evaluation is based on the risk that is associated
with acquisition, as well as the resources and future revenues gained. The appliance market is
declining as a whole, going down roughly 25% in 10 years. Therefore, purchasing GEA in a
slow market may lead to immediate losses and a long time to recuperate the ROI. GEA is not
in the right position to grow sales, revenues, and profits to the expectations of the company
standards. Therefore, the company is in desperate need of a buyer, so they don't incur any more
losses. From a selling standpoint, it would be better to take a small loss on the sale of the
company as it is better to get out now and make a small profit then to go bankrupt and sell for
nothing. The risk and demand to sell GEA will bring down the evaluation and would be
acquired for less capital.
On the opposite end of the spectrum, we need to observe the positive benefits from the
acquisition. The purchase of GEA by Electrolux will allow them to increase potential of the
company and compete heavily in the US market. Acquiring GEA’s resources in the US will be
cheaper than if they were trying to expand themselves, as all the groundwork is already
complete. Furthermore, they would acquire GEA’s new manufacturing technology, marketing,
and sales in the large US market. Getting all the resources will overall increase Electrolux
revenues. Based on the risk of the acquisition which bring the value down, in comparison to
the benefits that bring the values up, we decided a range between 3-4 billion is a fair estimate
for the acquisition of GEA.