Brown-Forman Distillers Corporation

In early July 1978, W. L. Lyons Brown, Jr., president and chief executive officer of Brown-Forman Distillers Corporation, faced an important acquisition decision. The principal owners of Southern Comfort Corporation had approached Brown in May with an offer to sell the company at a price of $94.6 million. In preparing his response, Brown was evaluating the feasibility of the asking price and the likely effects of the acquisition on Brown-Forman’s share price.

As a leading producer, marketer, and importer of wines and distilled spirits (including the well-known Jack Daniel’s brand), Brown-Forman ($457 million net sales) was the fifth-largest distiller in the United States, after National Distillers ($586 million), Seagram ($2,018 million), Heublein ($839 million), and Hiram Walker ($875 million). How Brown had chosen to position Brown-Forman among its competitors would affect the appraisal of Southern Comfort.

Brown-Forman: Financial Goals and Performance

In 1977, Brown-Forman’s management adopted new long-range financial goals regarding: (1) hurdle rates for investment; (2) size of the capital budget through 1980; (3) target capital structure; and (4) dividend payout. The primary objective of these goals was to “increase the value of the stockholders’ investment.”

The dividend payout ratio (all dividends paid divided by net income) was targeted at a range of 30% to 35%. Planned investment during the 1978 to 1980 period included $86 million for advertising and promotion, $39 million in barreled-whiskey inventory, and $19 million in new plant and equipment. Regarding capital structure, the ratio of total debt to total tangible capital, 26.6% at the end of 1977, was viewed as offering “considerable flexibility in financing investment opportunities with either debt or equity.” Finally, the target hurdle rate, calculated as the return on total capital employed, was set at 14% for new capital projects in the distilling industry and 12% for...