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We will start comparing by segment’s averages and aggregate the results. By looking at exhibit 4 and taking the average of the firms in composite: * Diageo’s interest coverage (5.0) is lower than all segments’ average industry figure. Allied Domecq, Coca Cola, Gillette, McDonalds, Kellogg have a 2 to 3 times higher interest coverage. It is less risky for the lenders to finance those companies. * Diageo’s book gearing (59%) is slightly lower than average spirits’ segment figure, higher than the average book gearing of competitors in beer and beverage industry, lower than package food and fast food industry averages. * Diageo’s market gearing (25%) is slightly lower than average spirits’ segment figure, higher than the average
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However, it does not take into account some factors the potential conflict of interest problems between management, debt holders and shareholders. Debt increases expected return and risk to owners and as agency costs can arise, they should ideally be incorporated in the forecasts. The potential future acquisitions, although part of Diageo’s strategy, are also missing from the picture. Furthermore, the text says that "A distress condition imposed a one-time permanent 20% reduction in the value of the firm. There was no provision in the model for issuing equity to pay down debt when coverage fell." This means that the possibility for the firm to handle financial distress is minimized. I would adjust the model by taking into account the possibility for the firm to take some actions to prevent or reduce the impact of the financial distress (issue equity to pay debt when coverage
However, it does not take into account some factors the potential conflict of interest problems between management, debt holders and shareholders. Debt increases expected return and risk to owners and as agency costs can arise, they should ideally be incorporated in the forecasts. The potential future acquisitions, although part of Diageo’s strategy, are also missing from the picture. Furthermore, the text says that "A distress condition imposed a one-time permanent 20% reduction in the value of the firm. There was no provision in the model for issuing equity to pay down debt when coverage fell." This means that the possibility for the firm to handle financial distress is minimized. I would adjust the model by taking into account the possibility for the firm to take some actions to prevent or reduce the impact of the financial distress (issue equity to pay debt when coverage