Question

Several years ago, RJR Nabisco Holdings Corporation (Holdings) offered for sale 93 million shares of its subsidiary RN-Nabisco Group. According to the prospectus, the estimated initial public offering price for RN-Nabisco common stock would be in the range of $17 to $19 per share. Holdings hoped to raise about $1.7 billion from the stock offering and to use the proceeds to reduce its debt burden. But investors weren’t buying—at least not at the prospectus price—and Holdings scuttled the stock offer 23 days after it was first announced.
At the time, the Nabisco Group was one of the world’s leading packaged foods businesses with sales of more than $6.7 billion. The Group’s Nabisco Biscuit Division was the largest cookie and cracker manufacturer and marketer in the United States with eight of the nine top-selling brands.
Holdings was composed of the Nabisco Group and the Reynolds Group, which included the R.J. Reynolds Tobacco Company, the second largest manufacturer of cigarettes. The Reynolds Group’s net sales as a percentage of Holdings’ total consolidated net sales were 57%. Holdings was formed in 1989 when its predecessor company—RJR Nabisco, Inc. (RJRN)—was taken private in a leveraged buyout transaction. Holdings was taken public again in 1991 with the buyout group retaining 49% of Holdings’ stock.
The plan at the time was to split off Nabisco Group from Reynolds Group and thereby improve the company’s share price. Holdings had seen its stock price fall 36% that year for two reasons: R.J. Reynolds’ earnings had been hurt by a brutal cigarette price war that began in early April, and investors had become increasingly concerned about the uncertainty over tobacco liability.

The Proposal
The Nabisco stock offered to the public would initially represent 25% of the equity of the Nabisco Group. The Reynolds Group would retain the balance of Nabisco’s equity. Each outstanding share of common stock of Holdings would be redesignated into a common share of Reynolds stock, which was intended to reflect separately the performance of the Reynolds Group as well as the retained interest of the Reynolds Group in the Nabisco Group.

The offering prospectus described the company’s dividend policy as:
The Board of Directors of Holdings currently intends to pay regular quarterly dividends on the Nabisco Stock in an aggregate annual amount equal to approximately 45% of the prior year’s earnings of Holdings attributable to the outstanding Nabisco Stock. Consistent with this policy, Holdings currently intends to pay . . . an initial regular quarterly dividend of $0.13 per share of Nabisco Stock. While the Board of Directors does not currently intend to change such initial quarterly dividend rate or dividend policy, it reserves the right to do so at any time and from time to time. Under the Certificate of Incorporation and Delaware law, the Board of Directors is not required to pay dividends in accordance with such policy.
Dividends on the Nabisco Stock are limited by the Certificate of Incorporation and will be payable when, as and if declared by the Board of Directors out of the lessor of (i) the Available Nabisco Dividend Amount and (ii) funds of Holdings legally available therefore. Payment of dividends on the Nabisco Stock is also subject to the prior payment of dividends on the outstanding shares of Preferred Stock of Holdings (and any new class or series of capital stock of Holdings with similar preferential dividend provisions) and to restrictions contained in the Credit Agreements and certain other debt instruments of RJRN. . . . The “Available Nabisco Dividend Amount” is similar to that amount that would be legally available for the payment of dividends on Nabisco Stock under Delaware law if the Nabisco Group were a separate company, and will be increased or decreased as appropriate by, among other things, Holdings Earnings Attributable to the Nabisco Group. “Holdings Earnings Attributable to the Nabisco Group,” for any period, means the net income or loss of the Nabisco Group during such period determined in accordance with generally accepted accounting principles (including income and expenses of Holdings allocated to the Nabisco Group on a substantially consistent basis). . . .
Holdings has never paid any cash dividends on shares of Common Stock. . . . The Board of Directors currently intends to pay future quarterly “pass-through” dividends on the Reynolds Stock with respect to the Reynolds Group’s Retained Interest in the Nabisco Group. Holdings currently intends to pay . . . an initial quarterly pass-through dividend of approximately $0.03 per share of Reynolds Stock. . . . Subject to [certain limitations], the Board of Directors would be able, in its sole discretion, to declare and pay dividends exclusively on the Nabisco Stock or exclusively on the Reynolds Stock, or on both, in equal or unequal amounts, notwithstanding the respective amount of funds available for dividends on each series, the amount of prior dividends declared on each series or any other factor.

Required:
As a potential investor in Nabisco Group stock, what agency problems do you face that are not present when you buy common stock in most other companies?



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  • CreatedSeptember 10, 2014
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