Group 4: Anthony Orenbaun, Son Nguyen, Kiwane Perry, Howard Chen, Adi Jalan

Big Beer: InBev and Anheuser-Busch Case

Industry Trends - Consolidation

Rising commodity prices lead to consolidation in the industry. There have been 883 M&A deals in the industry since

2003 with a value of $200 bn. Consolidation allows brewers to expand into growing markets, seek new capabilities,

or offer other complimentary services through scope deals. Consolidation can also allow companies to increase their

market share within their industry through scale deals which are complemented by realizing synergies and economies

of scale. Beer M&A activity usually relies on synergies through cost savings from capacity reductions, overall

distribution leverage and cost cuts. These savings generally took three to four years to achieve.

Industry Trends - Globalization

Established markets, such as North America, South and Central America, and Western Europe, have plateaued in

growth. The US market continues to dominate in terms of value and has seen a growing popularity of both premium

and light beers. Emerging markets have led overall volume growth with Asia-Pacific markets growing at a high CAGR

of 5.5%. China is the largest beer market by volume, with premium and super-premium segments growing fastest.

Because brewers are facing flat growth in developed markets, securing brands and positions in emerging markets has

been a key driver of growth. The recent global recessionary conditions were expected to lead the average consumer

to switch, in the short term, to cheaper alternatives at the expense of premium lager sales. Brewers benefiting the most

from the state of the world economy were those with wide product portfolios and broad geographic reach. Brewers hit

the hardest were expected to be those with the greatest exposure to the US and UK.

Industry Trends -Size

Deal making resulted in a dramatic increase in the top five brewer’s share of the global market by early 2008. It made

sense for brewers to keep getting bigger. Competitors in the space were cutting costs, integrating horizontally and

vertically, and were continuously marketing their brands. This created a competitive trading environment that

benefited brewers with the right brands, a strong local presence, and who can effectively deliver on scale and scope

efficiencies. Efficient consolidation and growth initiatives allowed brewers to build a diversified portfolio of products

that could be produced for less and brought to an increasing number of markets while creating a regional presence.

Large brewers with good credit ratings had an advantage over the rest of the industry as well. The credit crunch of

mid-2007 had a far-reaching impact that hurt many company’s ability to get financing and also increased financing

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 Group 4: Anthony Orenbaun, Son Nguyen, Kiwane Perry, Howard Chen, Adi Jalan

costs in the capital markets. Companies stunted by this growth were at risk of being dominated or acquired by those

who were able to capitalize on this disruption. Larger brewers were positioned best.

Potential Synergies - Cost Synergies

InBev was formed from the merging of AmBev and Interbrew in 2004. InBev and Luis Fernando Edmond, InBev’s

president for the North and South American zone, had proven expertise in cutting costs in acquired companies. The

combined company raised its EBITDA margin from 27.2% in FY05 to 36.8% in FY07. It reached this margin through

aggressive cost cutting. InBev implemented a Zero-Based Budgeting (ZBB) program to cut costs. ZBB requires

acquired companies to justify all expenses and cost synergy benefits each year and has proven successful in both

growing and established markets.

Anheuser-Busch (AB) also has its own cost reduction program called Blue Ocean. Blue Ocean has the potential to

save $400 mm to $1 bn for AB by improving brewery efficiency and implementing automated processes in its

warehouses. The overlap in desire to cut costs could lead to a more seamless transition, especially since InBev often

gives the acquired companies a chance to cut costs before using ZBB to do so. Anheuser Busch could experience

further cost synergies through SG&A. The combined firm would require fewer employees and facilities. Moreover,

the marketing expenses could be optimized by the combined company.

AB can also realize financial cost synergies through diversification, geographic expansion, and collateral increase

through a larger asset base. This can be quantified through the potential to increase leverage by approximately 5% and

an increase in credit rating, reducing the pretax cost of debt to 5.14% as seen in Exhibit E.

Potential Synergies - Market Expansion

Perhaps the most attractive synergy available to both InBev and AB is the market share they would have access to as

a combined unit. There are significant revenue synergies available based on the dominance of InBev and AB in their

own respective markets. InBev has been the number one beer company in the world based on volume of shares since

its inception in 2004 by relying heavily on Latin America, Asia, and Europe. AB was the number one beer company

based on share volume until InBev came along; it is now number three. AB is, however, the number one beer company

(about 48.5% of the market share) in the United States. The United States is the top global market according to value

and the second ranked global market according to volume. In other words, based on the proven success and prestige

of both InBev and AB separately, if they can find a way to efficiently merge, there is potential for a complete

domination of the United States beer industry.

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Hurdles - Laws, Public Perception and Market

There are possible antitrust laws, and political and regulatory issues. The US public might not welcome the deal since

there are fears of a foreign company buying out AB. Numerous business ties between AB and both candidates for the

2008 presidential election further complicate this takeover. Furthermore, there are uncertainties in the market overall,

and the lending markets have been tightened following the mid 2007-credit crunch, making it harder for InBev to

finance the deal.

Hurdles - Ineffective Operations, Different Strategies and Implementing Synergies

Operationally, InBev needs to realize that AB’s core growth has been slow. Competitors, such as Miller-Coors were

catching up fast in the US market share. AB already controls 50% of GM, but GM has preemptive rights to choose its

partner (endorsing an independent AB or throwing its weight behind InBev), which could lead to complications with

a deal. The two companies also had different strategies: InBev focused on acquiring international brands, while AB

concentrated more on the U.S. market. Synergies might be minimal because of limited market overlaps. It appears that

the takeover would not result in high value-creation for both companies, especially in revenue-savings.

Hurdles - Culture Differences

AB is family owned, traditionally operated, and not as aggressive in acquiring other companies as InBev. Moreover,

InBev being aggressive in cutting costs of acquired companies may be seen negatively by AB. AB’s adjusted board

re-election process is an additional threat to InBev's possible hostile offering.

Is $70 per Share a Fair Price for AB?

InBev’s offering of $70 per share is a fair price for AB. According to Exhibit F, AB’s share price with synergies is

$61.48. This implies a 15% premium on AB’s stock, which we deem as adequate. However, AB could likely negotiate

an even higher price based on its brand value and its firm hold on the American beer market.

Stand-alone Value and Value with Synergies for AB

The firm value and equity value are $44.2 and $35.4 bn, respectively (Exhibit C), leading to a price target at $48.22

per share (Exhibit C). With synergies (revenues synergies, SG&A and Blue Ocean program, WACC), the firm value

and equity values jump to $54 and $45.1 bn, which give rise to a stock price of $61.28 per share (Exhibit G). This

share price is sensitive to both WACC and perpetuity growth rate, as can be seen in Exhibits D and G.

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APPENDIX

Exhibit A: Assumptions Driving Models

Exhibit B: WACC for Standalone Firm1

1
Assume a 30% target leverage ratio in the long run, in accordance with industry standards seen through InBev’s 32% leverage.
Cost of debt is calculated as the risk-free rate and the spread based on credit ratings.

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Exhibit C: DCF for Standalone Firm2

Exhibit D: Sensitivity Analysis for Standalone Firm

2
Revenue is expected to grow at 2.75% in 2008 (analyst estimates), stepping down annually to a 1.85% growth into perpetuity.
COGS are expected to increase in 2008 and consequently moderate over time, leading to no change after 2008.
SG&A is expected to gain efficiencies over time, therefore stepping down by 1.5% per year.
D&A and capex converge over time and reach a maintenance level to sustain the 1.85% growth into perpetuity.
Change in NWC moves towards zero as AB reaches a steady state.

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Exhibit E: WACC Incorporating Synergies

Exhibit F: DCF Incorporating Synergies3

Exhibit G: Sensitivity Analysis Incorporating Synergies

3
Revenue synergies are projected at 2% of standalone sales, arising from diverse product lines and access to more intl. markets.
Cost synergies arise from SG&A efficiencies (5% per year) as well as the blue ocean project (750mm over four years).

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Group 4: Anthony Orenbaun, Son Nguyen, Kiwane Perry, Howard Chen, Adi Jalan