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Preparing the company for sale: Palm did it right! May 17, 2010

Posted by Bob Cook in Company Case Studies, Financial Planning & Analysis, M & A Integration, Silicon Valley.
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Real estate tends to be one of the last things evaluated during M & A due diligence by the acquiring company, and it’s not surprising that – surprise! – surprises are found there. Lengthy lease commitments, owned property worth less than net book value, contaminated sites, mission critical infrastructure that’s prohibitively expensive to move to the acquiring company’s site: these are just some of the surprises found by acquiring companies when they finally take a look.

Rarely, if ever, do these surprises derail an acquisition, but they do sometimes lead to re-pricing of the deal. And while the price cut might not be much as a percentage of the overall deal price, it can be a significant percentage of the amount had by the acquired company’s equity investors once they’ve paid off creditors and preferred-return equity holders. It’s at that point that the acquired company managers kick themselves for not more carefully managing their real estate portfolio.

You may ask: if they had managed their portfolio carefully, what would have they tried to achieve? What would have been the home run, the hole-in-one, the three-pointer at the buzzer? It would have been this: having real estate commitments (such as leases) and exposures (such as owned properties) that extended into the future no further than the date on which the acquiring company will be able to move the acquired company into its own facilities in an orderly fashion. “Not achievable!” you say? Think again.

Palm, which is being bought by HP for $1.2 billion, may have done it. According to its 10-K’s (see Table 1, below), Palm does not own any property and has done a masterful job over the last few years of decreasing its lease obligations. At the end of FY2007, the value of its minimum future lease obligations was $49.2 million; by end of FY2009, this had been cut in half to only $24.5 million.

Looking at the minimum future lease obligations net of sublease obligations from subtenants shows similar results – $34.7 million at end of FY2007 that were cut in half to $15.3 million at end of FY2009.

Making the story even better: if Palm has been able to avoid committing to any additional leases since the end of FY2009 in May of 2009, then as of the end of FY2010 which ends this month, it’s lease obligations should amount to no more than $13.2 million. After accounting for commitments from subtenants, its net lease commitment would be only $8.0 million. What an incredibly light burden for HP to have to take on! Miniscule in comparison to the value of the deal. It easily sets the stage for HP to be able to move Palm into HP facilities without HP having to bear much of an economic burden to pay rent on the unneeded property.

But wait! There’s more! By time the acquisition is closed and plans can be made and implemented to relocate Palm, it will probably be near the end of Palm’s FY2011 at which time only $2.4 million of lease obligations will remain and, incredibly, only $1.1 million of obligations net of obligations from its subtenants will remain. Can you believe it? Only a $1.1 million overhang of real estate obligation on a $1.2 billion M & A deal. That’s like driving the ball off the tee and coming to within an inch of a cup 700 yards away.

This light burden should make it economically feasible for HP to relocate the Palm operations to HP facilities. There should be plenty of space to accommodate Palm in HP’s 77-million-square-foot real estate portfolio, of which 7 million square feet was vacant and not sublet as of the end of HP’s last fiscal year in October 2009. For comparison, Palm’s Silicon Valley operation occupied only 347,000 square feet.

Yes, Palm did it right. From outside the company, it’s hard to know if it was from careful planning, from restrictions put on Palm by the real estate market or from just dumb luck. I’d like to think it was from the first of these possibilities – that there was an understanding of the need for careful real estate portfolio planning, that the planning was carried out consciously and that it paid off. A clear planning success story if ever there was one.

TAble 1: Palm’s Minimum Lease Obligations as Reported in 10K’s

Year in which rent was projected to be due FY2007 10K FY2008 10K FY2009 10K
2008 11.9 0.0 0.0
2009 11.7 11.5 0.0
2010 11.5 11.3 11.3
2011 11.2 10.7 10.8
2012+ 2.8 2.4 2.4
Total Min Lse Obligation 49.2 35.9 24.5
Less: Subtenant Income 14.5 13.0 9.2
Total “Net” Minimum Lease Obligation 34.7 22.9 15.3
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1. Tweets that mention Preparing the company for sale: Palm did it right! « Corporate Real Estate Strategy -- Topsy.com - May 23, 2010

[…] This post was mentioned on Twitter by Mo Loves Oc, Coy Davidson. Coy Davidson said: Preparing the company for sale: Palm did it right! « Corporate Real Estate Strategy: http://bit.ly/aX64QM […]


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