Williams 2002

1/8/2015

Contents1) Evaluate the terms of the proposed $900 million financing from the perspective of both parties. How would you calculate the return to investors in this transaction? If you need more information, what information do you need?.....................................................................................2

Q2) What is the purpose of each of the terms of the proposed financing...........................................3

Q3) Conduct an analysis of Williams’ sources and uses of funds during the first half of 2002. How do you expect these numbers to evolve over the second half of 2002? What is the problem facing Williams? How did it get into this situation? How has it tried to address the problem it is facing?...3

Q4)Some might describe Williams as “financially distressed.” What evidence is there that Williams’ business may be compromised as a result of its previous financial decisions?..................5

Q5) “Tough times demand tough decisions.” As the CEO of Williams, would you recommend accepting the proposed $900 million financing offer? If not, what alternatives would you pursue?. .6

PERCENTAGE CONTRIBUTIONRoll Number Name(PGP/17/) Percentage ContributionAnkit Kumar 195 20%R Gayathri 228 20%Shraddha Shrikhande 240 20%Surbhi Kothari 248 20%Sandeep Bhat 290 20%

1) Evaluate the terms of the proposed $900 million financing from the perspective

of both parties. How would you calculate the return to investors in this

transaction? If you need more information, what information do you need?

Evaluation from Berkshire Hathaway and Lehmann Brother’s Perspective

Williams was known for its solid assets, strong demand for its products and a

reputation for excellent service.

Its market value for Equity as compared to its competitors was as follows:

The Williams Companies Dynegy Dominion Resources Murphy Oil

13,152 6,105 15,792 3,808

The increase in revenue was by $1.4 billion despite the economic downturn

due to higher gas and electric power trading margins, higher natural gas

revenues and higher natural gas sales prices

The company showed long term potentials due to its strong assets

The loan was secured by a collateral in the form of Barrett Resources

Corporation which would make up for a default in the worst case scenario

Evaluation from the perspective of Williams

Being under extreme financial stress, this was deal would give Williams a greater

chance to secure a credit facility of $700 million

The financing was not cheap and required payment of principal plus 4% per annum

cash interest and a deferred set up fee.

The deal would also require maintaining a ratio of 1.5 to 1 interest coverage and fixed

charge coverage ratio

It would limit capital expenditures in excess of $300million and a maintenance of

liquidity of at least $600 million up to $ 750 million

However accepting the deal would help restore liquidity

Return to Investment

The return to investment in this case would be the interest of 5.8% per annum plus 15% of

deferred set up fee.

However this would change depending upon the sale of RMT’s assets. Hence information

about the probability of sale of RMT’s assets and the gains from it are required

Q2) What is the purpose of each of the terms of the proposed financing

The covenants providing floor values for interest Coverage ratios and fixed charge coverage

ratio helps in maintenance of Williams’ ability in meeting the financing expenses

satisfactorily and would prevent any further downgrade from credit rating companies which

would make refinancing and restructuring expensive. Since lenders Lehman Brothers and

Berkshire Hathaway due to heavy investment by the lenders in William’s directly and via

other companies, hence certain restricted payments on equity is required to maintain the value

of investments. It also contributes to restriction in capital outflow from the company. Similar

purpose is served by the restriction on capital expenditure. Access to all board meetings and

other meetings of the committee will help ensure that the decisions taken are favourable to

shareholders and agency problem is reduced. The covenant on the requirement of liquidity

indicates preservation of ability to meet the maturing short term and long term debt and

working capital requirements. Default provisions are always required to make sure the

amount invested is recovered fully.

Q3) Conduct an analysis of Williams’ sources and uses of funds during the first half of

2002. How do you expect these numbers to evolve over the second half of 2002? What is

the problem facing Williams? How did it get into this situation? How has it tried to

address the problem it is facing?

Reasons for financial distress and problems Williams is facing

a) Write-off of investment in WCG

During the Tech Bubble, the whole telecom market that WCG was involved in suffered a lot

of problems due mainly to a large oversupply, as indicated by an estimated 2% to 5% of the

fiber- optic lines which were only carrying traffic. The revenue of WCG eventually

plummeted, wherein prices of the lines decreased by more than 90% from 1998 and 2002.

In July 2002, the telecommunications sector was experiencing a lot of problems. WCG itself

also began to experience a lot of financial stress, and in hopes of supporting it, Williams

converted notes to shares, providing “credit support” of $1.4 billion of WCG’s debt (which

Williams listed as an off-balance sheet item). In the end, Williams took a one-time

accounting charge of $1.3 billion of guarantees and payment obligations. The problems with

WCG ended up affecting Williams as well, causing Williams’ net income after extraordinary

items to plummet.

b) Unforeseeable market conditions for energy trading

Because of the collapse of Enron, the market condition for energy trading became very

unclear. This led to most competitors in the industry choosing to switch focus or scale back.

In addition, Williams Energy Marketing and Trading also experienced its first loss in 3 years.

Williams was suffering from deteriorating credit ratings and increasing yields, and it

provided a huge risk on the company’s ability to participate in the market and raise funds.

c) Ongoing inquiries from regulators about reporting and energy trading

Williams was also facing an Investigation by the SEC concerning the collapse of WCG and

its financial reporting. This further worsened the situation.

Williams had a receivable of $ 2.15 billion from WCG. It had an obligation on $1.4 billion

worth of WCG Trust Notes and paid $754 million for the WCG lease agreement. Burdened

with $363 million of previous receivable, WCG’s debt burden was already high to raise new

funds from the market. Some operations that it is running are sapping money from the rest of

the company and even had to sell off Williams Communication group. Credit has dried up

and there is a lack of investment in the energy sector because of recent problems in the

energy company (with companies including Enron). There is also a “curve shift” and the

write off of certain assets is definitely not helping the situation. William’s was also reeling

from WCG’s debt burden. It got into this situation because of problems in its asset-based

businesses and the energy market as a whole.

Measures to address the problem and Sources and uses of funds in 2002

For the turnaround of the company, Williams had a four pronged plan. This would be plan to

sell assets, reaching a resolution for energy and trading book, managing and monitoring cash

businesses and righ-sizing Williams planned to sell $250 million to $750 million in assets

during 2002. However it had sold $1.7 billion in assets and announced intention to sell an

additional $1.5 to $3 billion over next 12 months. Capex spending was planned to slash by

25%, a saving of $1 billion. Williams planned to issue equity linked security FELINE PACS,

Williams would be obliged to pay 9% per annum in quarterly payments. Williams sold

preferred stock to Berkshire Hathaway. Another would be to revive the marketing and trading

division to be worth $2.2 billion. Williams would cut its dividends by 95% which would save

the company $95million. Williams had a $2.2 billion commercial paper program that was

back by a short term credit facility.

If Status Quo, numbers evolving in second half of 2002

From the exhibits, we can see that $378.4 million of commercial paper was outstanding.

Williams inventories increased by approximately 100 million, from $813 million to $908

million. Earnings per share (EPS) dropped from .77 to .10. Investing income dropped from

$34 million to $16.1. If we analyse the OCF of the company, we find that these numbers

would worsen if status quo condition is maintained. Williams is facing a liquidity crisis and

until investor confidence doesn’t return, Williams would continue remaining in financial

distress.

Q4)Some might describe Williams as “financially distressed.” What evidence is there

that Williams’ business may be compromised as a result of its previous financial

decisions?

Yes, Williams is in financial distress. This condition as explained in previous answer is due

to previous financial decisions. In 2002, due to failure in realization of due from WCG, it

incurred an estimated loss of $232 million. Another decision would be of Williams to make

payments of guarantees to WCG of $753.9 million. Another decision would be usage of more

cash in first quarter of 2002 compared to 2001, an increase in $791 million. With plummeting

stock price due to loss of investor confidence, Williams ended in financial distress. In

addition, Williams had preferred interest and debt obligations that had provisions requiring

accelerated payment of the obligation of the assets in the event of specified levels of declines

in Williams’ credit ratings. William’s rating was likely to fall due to its financial problems. If

its credit rating did in fact decline below investment grade, its ability to continue in energy

marketing and trading activity would be significantly limited. In May 2002 Williams faced

further trouble when Moody’s Investor Services notified it that it would be reviewing

Williams to determine if a credit rating downgrade should be initiated. Hence, analyzing the

above explanation and that given in previous Question, we find sufficient evidence to claim

that Williams business maybe compromised as a result of its previous decisions.

Q5) “Tough times demand tough decisions.” As the CEO of Williams, would you

recommend accepting the proposed $900 million financing offer? If not, what

alternatives would you pursue?

As a group, we recommend accepting the proposed $900 million financing offer. Williams

was in the need of new financing and it had substantial amounts of short-term and long-term

debt maturing in the second half of 2002 and its credit and paper facilities (held in reserve to

raise additional short term financing) needed to be renewed later in the year. Though the

terms of the loan were rigorous, Williams should explore other options in future using

Berkshire’s $900 million financing as an example/leverage that their balance sheet would be

strong in 10-20 years. This would make other credit companies wonder if Buffett is putting

up this money, why shouldn’t they. Buffett is known to target companies he believes are

undervalued and has skills in knowing when companies are not being given their fair credit.

On the flip side, Lehman’s and Berkshires bid is no guarantee. Furthermore, Williams would

have to pay 5.8% interest quarterly, a 14% principal payment at maturity, and a “deferred

setup fee” of at least 15%. Also, it would be important for Williams to sell the Barrett assets

or the fee would drastically increase. Moreover, Williams would most likely be unable to find

a joint venture partner in its Energy Marketing and Trading division. In the next 5 years,

Williams has over $7 billion in debt coming due.

As an alternative approach to financing, Williams could go to regulators for funds contending

that its services are vital to the public and also ask for changes in the industry which would

help them survive. Equity investments from energy development corporations are another

option. An interesting alternative is for William’s to turn away from an excessive reliance on

mathematical models to predict the future. There are qualitative and judgment issues which

these capital models may not address. These risks can only be understood through intuitive

means. Also, there are underlying deficiencies in the financial system’s ability to process,

view, trade, and analyze complex financial products (as shown by the recent financial crisis).

Finally, the cost of default and potential bankruptcy is far greater than the proposed financing

agreement and Berkshire and Lehman. Considering that the company has sound

fundamentals, it has the possibility to turn around the crisis once demand picks up again.

Therefore, it should accept the offer given desperate circumstances.