Why did Sealed Air undertake a leveraged recapitalization?

The company had lots of cash on its balance sheet and no debt. This resulted in inefficiency throughout
the organization. The company’s patents were expiring and competition was increasing. There were no
valuable acquisition targets on which to spend cash.

The company’s management implemented a new approach to manufacturing focused on efficiency and
quality (WCM). This improves the company more than management expected. If the company is to grow
to the levels management thinks are achievable, things need to change dramatically.

Management decides to disrupt the status quo to get managers and employees focused on creating value
through operations (cash flow). With little cash as a cushion, the company must learn to operate lean.

The recap allowed for a change in compensation - managers’ bonuses are tied to EBITDA, rather than
EPS - which is a better reflection of lean operations improving free cash flow. The recap drops the stock
price enabling the company to focus on placing more emphasis on employee stock ownership. This better
aligns the goal of the employees with stockholders.

Was This a Good Idea? - YES

1. The increased debt after the LBO decreased taxable income (creating a tax-shield), leading to
lower tax payments by the company but cancelled out by interest payments
2. The recapitalization made a statement to investors that the company was heading in a new
direction, targeting growth through improved operational efficiency.
3. One of Sealed Air’s key goals was to take care of shareholders and employees – current income
from the dividend and operational goal was consistent with that philosophy.

Who are the Beneficiaries?

1. Increased stake for employee ownership

a. Employee ownership to increase from 7.9 to 16% and to 18% by second anniversary
b. Profit-Sharing plan to increase from 0.7 to 4.7% and to 6% by second anniversary
2. New pool of investors
3. Prior to the recap many of Sealed Air’s stockholders appreciated the dividends paid regularly and
were categorized as conservative. Post recap many of these conservative investors and pension
fund investment groups sold Sealed Air due to internal policies. New “speculative” investors
focused on “cash flow” and hoped to see large gains in profitability (change in clientele).
4. Current Stockholders: 87% current income from the dividend without having to sell holdings, with
opportunity for future capital gains as company continues to operate
5. Stockholders who received the excess cash provided by the recap. They received the entire
equity value of the company (negative shareholder’s equity after the dividend is paid).

Parties hurt

1. Institutional Investors: Had to sell stock before ex-dividend date per requirements to hold a
minimum level of market cap by investment
2. Pension Funds Managers / Owners: had to sell ownership due to requirements to own dividend-
bearing holdings.
3. Other Money Managers: Had to sell stock before ex-dividend date due to internal benchmark of
capital gains
4. Investor response post the recapitalization was mixed in a company that now had a negative net
worth
MJ:
● Benefit - Brought in a new pool of investors

●
●
● Prior to the recap many of Sealed Air’s stockholders appreciated the dividends
paid regularly and were categorized by the text as conservative. Post recap
many of these conservative investors and pension fund investment groups sold
Sealed Air due to internal policies. New “speculative” investors focused on “cash
flow” and hoped to see large gains in profitability.

Ross:
5. Beneficiaries
a. Stockholders: 87% current income from the dividend without having to sell holdings,
with opportunity for future capital gains as company continues to operate
b. Sealed Air: supports overall plan to operate lean and improve operations
c. Banks: Hefty amounts of interest earned from lending to Sealed Air
6. Parties hurt
a. Institutional Investors: Had to sell stock before ex-dividend date per requirements to
hold a minimum level of market cap by investment
b. Pension Funds Managers / Owners: had to sell ownership due to requirements to own
dividend-bearing holdings.
c. Other Money Managers: Had to sell stock before ex-dividend date due to internal
benchmark of capital gains

4. Since debt has a lower cost of capital than the equity, the returns on the equity increase until
the perfect capital structure is reached. As a result, the debt effectively serves as a lever to
Sealed Air Corps increase returns-on-investment.

ANSWER