Marriott Case Analysis Project Chariot example essay topic

Marriott Corporation and Project Chariot The Marriott Corporation (MC), had seen a long, successful reign in the hospitality industry until the late 1980's. An economic downturn and the 1990 real estate crash resulted in MC owning newly developed hotel properties with no potential buyers in sight and a mound of debt. During the late 1980's, MC had promised in their annual reports to sell off some of their hotel properties and reduce their burden of debt. However, the company made little progress toward fulfilling that promise. During 1992, MC realized that financial results were only slightly up from the previous year and their ability to raise funds in the capital market was severely limited. MC was left with little choice, as they had to consider some major changes within the company if they wished to remain a successful business.

Thus, J.W. Marriott, Jr., Chairman of the board and president of MC, turned to Stephen Bollenbach, the new chief financial officer, for ideas and guidance. Bollenbach, who had a reputation for creating innovative financial structures in the hotel industry, proposed a radical restructuring for MC. Bollenbach's proposal included breaking MC into two separate entities. The new company would retain the service businesses of MC and have the financial strength to raise capital and take advantage of various investment opportunities. On the other hand, the old company would retain the hotel properties and the pressure to sell properties at reduced prices would be greatly lessened. This drastic restructuring proposal, deemed Project Chariot, had to be evaluated by J.W. Marriott before he went before his board of directors with his ultimate recommendation.

Thus, Marriott planned to review the company's past financial history that led to their current position; evaluate Project Chariot's advantages, disadvantages and value; determine the bond risk involved if Project Chariot was accepted and finally consider alternative recommendations. Past History of MC By the 1980's, the Marriot Corporation, founded in 1927, had grown into a financially sound, industry-leading corporation. Although MC went public in 1953 and continued to sell stock to the public, the Marriott family still retained the controlling interest of 25% of the company in 1992. Once J. W Marriott Sr. resigned in 1964, his son, J.W. Marriott Jr., took over the position and changed his father's conservative financial procedures. Under Marriott Jr., MC began to borrow money to finance expansion in order to maintain the company's historical 20% annual revenue growth rate.

The corporation's past success had been achieved through the building of hotel properties for sale to investors, while at the same time maintaining long-term lucrative service contracts that would bring cash flow to the corporation. MC went into joint ventures by constructing hotels and selling them to the Equitable Life Insurance Society, which became a very profitable and powerful growth strategy. Over one five year period, MC sustained an annual growth rate of 30% and had 70% of their hotel rooms owned by outside investors. The growth was so substantial that the corporation gained an exceptional reputation in the field for quality and reliability in service, which lead to hotel occupancy rates between 4 and 6% above the industry average. Marriott continued to widen the gap and in 1992, although the industry standard was 65%, Marriot Corporation was achieving 76 to 80%. The Economic Recovery Tax Act, introduced in 1981, continued to stimulate MC's hotel-developing activities, as the new law created more incentive for ownership of real estate.

MC's first real estate limited partnership gave investors $9 in tax write offs for every $1 invested. The company continued expansion, entering the market of mid-scale properties and introducing Courtyard in 1985 and Fairfield in 1987. In 1986, the Economic recovery tax act ended the majority of tax incentives. When the real estate market collapsed, MC's income saw a drastic downturn and it's year-end stock price fell by more than two-thirds, causing a drop over of $2 billion in market capitalization. As a result, the investor-owned MC went bankrupt for the first time, leaving the corporation with huge interest payments. Thus, MC was not only facing serious financial constraints, but was also unable to raise additional funds in the market to help recover the corporation's financial stability.

Project Chariot Stephen Bollenbech, chief financial officer (CFO) of MC, had an idea that in theory would help MC out of their financial distress. Bollenbech's idea, Project Chariot, was to conduct a major restructuring of MC. Under Project Chariot, MC would split into two companies, creating a special stock dividend for existing MC shareholders. This dividend would give stockholders of MC a share of stock in the new company, matching each share currently held in MC. The new company would be called Marriot International, Inc. (MII) and the existing company would be called Host Marriott Corporation (HMC).

Under the division, based upon a projected pro forma basis, MII would have $7.9 billion in sales and operating cash flow before corporate expenses, interest and taxes and $408 million in taxes. HMC, again based upon a projected pro forma basis, would have $1.8 billion in sales, including corporate expenses, interest and taxes and taxes of $363 million. Under Project Chariot, HMC would retain all of Marriot Corporation's long-term debt, which is nearly $3 billion. In addition, HMC would have access to MII's revolving credit line of $600 million through December 1997. MII would have very little long-term debt, which would give the company the ability to raise additional capital to help finance growth.

Evaluating Project Chariot There are a several items MC must consider prior to making the ultimate decision of whether or not to accept Project Chariot. The first of which is the potential advantages and disadvantages of the company undergoing a spinoff. While the concept of getting smaller or breaking-up might seem counterintuitive for MC, the action has the potential to benefit the company and its shareholders. The idea of Project Chariot is to split the parent company, MC into two entities, HMC (existing company) and MII. The potential benefits of the de-merger are the following: (web): 1. Equity holders benefit from the emerging profitable operations of Marriott (MII) 2.

Both companies are able to generate additional equity funds 3. Corporate valuation is improved by providing strong incentives to employees who work in MII. For example, publicly traded stock options are available for employees of MII, which should provide motivation and reward. 4.

The division enables management of HMC focus on core operations. 5. Shareholders are better informed due to separate financial statements. 6. Internal competition for corporate funds is reduced. On the other hand, there are also disadvantages to consider (web): 1.

Debt holders are saddled with HMC's struggling properties segment. 2. The smaller company size could make it more difficult for both companies to tap credit markets; limiting options to more expensive financing methods that may be affordable only for larger corporations. 3. The smaller company size may also make it more difficult to attract institutional investors due to a decrease in representation on major indexes and potential downgrading of credit ratings. 4.

Synergies could be lost during separation, causing redundant costs without increasing overall revenues. The second important consideration for MC and the decision of accepting / rejecting Project Chariot is valuation. The manner in which MC defines its debt-equity ratio will have a direct effect on the perceived value of the company. One technique the company can utilize to calculate its value is the pie theory, which is the sum of the financial claims (debt and equity) (Ross, et. al, 2001). Thus, the value (V) of MC equals the market value of the debt (B) plus the market value of the equity (S). Based upon MC's historical financial information for 1991, the value of the company is estimated at $3,658,000 (see below for calculation).

V = B + SV = $679,000,000 + $2,979,000,000 V = $3,658,000,000 The same calculations can be done for the two companies formed from the Project Chariot spin-off: HMC and MII. Based upon a projected pro forma basis, equity and debt were figured for the two new entities. Thus, the values of the two companies can be calculated. HMC's value is estimated at $2,600,000,000 and MII's value is estimated to be $1,200,000,000. HMC V = B + S MII V = B + S = $600 + $2,000 = $800+ $400 = $2,600 (millions) = $1,200 (millions) The following table provides a break-down of some critical information comparing the value of the existing firm MC and the two firms proposed, HMC and MII, proposed by Project Chariot: Marriott Corporation HMC MII Number of Employees 202,000 23,000 182,000 Equity $679,000,000 $600,000,000 $800,000,000 Debt $2,979,000,000 $2,000,000,000 $400,000,000 Value $3,658,000,000 $2,600,000,000 $1,200,000,000 Bond Risk The greatest risk associated with Project Chariot appears to be the fact that HMC would assume almost the entire existing debt burden associated with the existing organization, while MII, with the greatest cash flow potential would emerge essentially debt free. While this strategy may bode well for MII, HMC emerges from Project Chariot as a debt encumbered entity with an anticipated net loss of $66 million annually.

The primary sources of the existing long-term debt of the Marriot Corporation have been issued in the form of secured and unsecured bond notes. Project Chariot does little to address the impact of the organizational restructuring on bondholders. While management seems confident that the emerging HMC firm will sustain enough financial strength to make all payments to bondholders, the negative net revenues are likely to result in a reassessment by the bond rating agencies. It appears likely that the ratings for existing bonds will be lowered to below investment grade due to the increased investment risk which will require some institutional creditors to sell their holdings. As the firm's bonds are downgraded below investment grade to "junk" bonds, investors will perceive a higher default risk and fewer individuals will be interested in owning them. In addition, because many institutional investors are legally restricted from purchasing bonds rated below investment grade, the high risk associated with the low bond rating will make it difficult for HMC to obtain additional financing should the need arise.

As a result of the lower bond rating and higher risk, higher returns must be offered in order to attract investors. Therefore, the cost of debt could increase for HMC. HMC's financial position could also place it in a premium position for a hostile take-over such as a leveraged buy out (LBO). In a leveraged buy out a group of investors may issue debt based on the value of the target company's assets, and then, once acquired sell those assets to repay the debt (Answers. com).

The susceptibility of HMC to such a hostile take-over once the corporation has been divided must be a consideration for Marriott's executives before making a recommendation to the board. Alternatives for Marriott Corporation The high level of debt associated with the corporate restructuring plan proposed by Project Chariot places the emerging company in an automatic position of financial distress. While the increased debt may generate substantial tax incentives, it also places the firm in jeopardy of bankruptcy or a hostile takeover. Management should consider the option of financial restructuring to improve the company's financial position. HMC which emerges with approximately $2,000 million in debt must find a way to retire some of the existing debt either by buying off the debt or converting it to equity holdings to reduce the interest payments as well as the possibility of bankruptcy (Yawson, 2004). It is also important to implement a strategy for effective working capital management in order to achieve a financial turn-around (Yawson, 2004).

Management must ensure that HMC effectively control its working capital. Strategies include implementing effective debt collection techniques to improve cash flow and reducing any unnecessary inventory holdings (Yawson, 2004). The consolidated balance sheet for Marriot Corporation indicates more than $500 million in accounts receivables and more than $200 million in inventory. The balance sheet also reports an additional $220 million in "other current assets". Management would be well advised to review its debt collection and inventory policies, as well as identify any efficiencies that could be gained from the "other current assets" holdings. In combination with financial restructuring, there are additional corporate restructuring strategies which may improve the financial performance of the corporation.

It may be necessary to consider a change in management. Evidence seems to suggest that even though Marriott's decline in performance results more from economic and industry factors than poor management, stakeholders will perceive a change in management as a positive action (Yawson, 2004). In other words, when things are going poorly, stakeholders prefer to see some action taken and will see these actions favorably as an attempt on the part of the firm to improve performance. Asset reduction is another restructuring strategy that should be considered. Although it is understandable that the firm anticipates the value of many of its assets to appreciate over time, by selling off at least a small percentage of its under performing assets, the company could effectively reduce its debt burden.

The consolidated balance sheet of the Marriott Corporation for 1991 shows over $1,500 million in assets held for sale. The sale of these assets could reduce the debt burden of HMC significantly. In addition to management changes and asset reduction strategies, another option for management to consider would be work force reduction. It would be prudent on the part of Marriott management to actively review the productivity of its labor force and consider the possibility of labor force reductions. This could be accomplished through elimination of jobs as employees voluntarily leave the company, offers for early retirement, or lay-offs. While this is always a difficult and unpopular strategy, as Marriott attempts to recover from its financial decline, all avenues of cost reduction should be considered.

Final Considerations Marriott Corporation should follow the proposals as outlined in Project Chariot. There are, however, some additional strategies that should be considered. Project Chariot does not address the issues surrounding the heavy debt burden of HMC. There are several additional financial and corporate restructuring methods that should be considered in conjunction with the restructuring proposed by Project Chariot. The Management team of HMC must aggressively restructure its finances in order to alleviate this debt and reduce its risk of bankruptcy or take-over. Also, if possible actions should be taken to ease the worries of existing bondholders and institutional investors.

Management may consider sharing the debt more equally between the two divisions in an effort to prevent downgrading of the credit rating and loss of investors.

Bibliography

Answers. com. Leveraged Buy Out. Retrieved July 17, 2005 from web yield or "junk" bonds.
Retrieved July 18, 2005 from web web Retrieved July 16, 2005.
Ross, S., et. al. (2001).
Corporate Finance. McGraw-Hill Companies. Yawson, A. (October 20, 2004).
Performance shocks, turnaround strategies, and corporate recovery: Evidence from Australia. Retrieved July 18, 2005 from http: //64.