Timken Company Torrington Company Case

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The lower bond rating will make Timken difficult to raise money by issuing bonds. Firstly, if Timken would be forced to borrow the money at “high-yield” rates, the borrowing cost of Timken will increase a lot. According to Exhibit 9 in the case, the yield of BB rating is 9.69% and the yield of B rating is 10.84%, which are much higher than the yield of BBB rating (7.23%). The higher yield of bonds indicates that Timken need to pay more interest for the bond buyers. Furthermore, it is risky for bond buyers because they will face huge interest risk as well as default risk. For example, as the interest rate goes high, the price of these kinds of “high-yield” bonds will decrease. The investors will not buy these kinds of bonds due to the high interest risk. At the same time, as the duration of the bonds goes longer, based on the fluctuation of the interest rate, there will be a big chance that the companies default on the bonds they issued.

Table 3

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Note. Adopted from Darden Business Publishing

Table 4

[pic 4]

Note. Adopted from Darden Business Publishing

Secondly, as mentioned in the case, both Moody’s and S&P 500 had placed Timken ‘s ratings of Baa1/BBB on review. In other words, according to table 2 (Select Financial Ratios by S&P Credit-Rating Categories), the company’s EBIT interest coverage multiplier is 3.9-6.3, and Total debt/capital is 42.6%-47.0%. The data shows that the company has high leverage ratio and low coverage ratio. And once the company becomes the ones carrying non-investment-grade ratings, the difficulty of raising funds from public for Timken will be high.

5. How should the deal be structured?

According to the case material, the transaction structure of Timken acquires Torrington changed from primary asset transaction to entity transaction, so the size of transaction became quite large, which is $800 million. As we talked in the question 4, if the entire acquisition value finances by debt, the leverage ratios of Timken will increase to 67.43%, leading to lower investment-grade rating. In addition, the case also mentioned that rating agencies place Timken to BBB rating due to the trend of its increasing leverage. Therefore, we think it is better to raise the acquisition value by combination of debt and equity financing to at least maintain the current leverage ratios (43.1%) and current investment-grade rating (BBB). We set the amount of debt needed to raise to X and the amount of equity to $800M - X. Then, we got the following formula: (461.2 + X) / (1070.3 + X + 800 - X) = 43.1%. The debt and equity needed to raise is $176.6 million and $623.4 million, respectively. The price per share of Timken was $17 at that time, so Timken needed to issue 36.6 million shares to finance $623.4 million.

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