Mensa Inc.:Develop

    Mensa,
    INC.

    (A fictional
    company)

    Mensa, Inc. was a firm with a long and
    uneven history. It was started in 1974 and at one time or another had been a
    competitor in more than two dozen industries with varied success. Each of the
    several CEOs had developed a different strategy and over the decades the firm
    had had many manifestations. The only real constant in Mensa’s strategy had
    been a commitment to the packaging business in its several forms. But, even in
    this business there had been any number of changes in direction which diluted
    the impact of capital spending and had the effect of Mensa never achieving a
    strong position in any of the packaging segments although, briefly, in the
    early 1980s Mensa’s total packaging revenues made it the largest packaging
    company in the world. The lack of a competitive advantage in any of the large
    packaging segments resulted in Mensa being pushed into producing commodity
    products which had them penned between powerful steel and tinplate suppliers
    and powerful food and beverage producers as customers. Also, as their large
    customers grew there was pressure for them, especially in the low margin food
    business, to build their own packaging facilities, especially can plants. The
    long term effect of this was to cause Mensa’s packaging profitability to lag
    its better positioned competitors.

    At one time or another during the 1980s
    and 1990s the company produced auto parts, electrical equipment, power
    equipment, electric motors, metal alloys, airplane wings, furniture, appliances,
    communications equipment, specialty chemicals, and consumer products, to name
    only the most important of their many businesses. They also bought several
    regional retail chains. None of these businesses worked out well and all were
    either sold or liquidated at a loss. The financial and human capital devoted to
    these businesses was largely lost. Further, the problems they caused diverted
    capital and management attention from better opportunities.

    NEW STRATEGIES
    FOR THE 21st Century

    By
    the late 1990s under still another new CEO a management consensus had
    developed. The consensus was to (1) reduce holdings in operations that fall
    short of performance goals or do not fit the long-term strategy of the company;
    a target of realizing $600-$700 million from the sale of such assets was
    established, (2) reinvest these funds in areas promising profitable growth, (3)
    improve return on equity over the long term as a consequence of this
    reinvestment strategy, and

    (4)
    strengthen Mensa’s balance sheet and credit standing. The new benchmarks for
    the firm included having a well balanced BCG matrix that considered fast
    growing industries to be those that were growing at more than 10% per year. The
    end result would be a firm with four main businesses: financial services,
    energy, packaging and forest products. The latter was primarily a paper, fiber
    drum, and cardboard business that also generated about 25% of revenues from
    selling lumber and wood chips.

    This
    strategy was followed and many businesses were sold although the amount of
    money received for the businesses fell short of the $700 million target by
    almost $250 million. The businesses sold were all either small competitors in
    their industry or were in industries that suffered from overcapacity and low
    returns.

    1

    The
    New Mensa

    By
    2XX1 the sales were complete and most of the realized funds had been redeployed
    into Mensa’s four main business groups, resulting in a firm that management
    thought met their goals. The Chairman stated in the 2XX0 Annual Report
    that Mensa was ready to move on to a new phase:

    “Our
    primary task is now the efficient production of quality goods and services
    within our restructured business segments: packaging, forest products,
    insurance, and energy. Further details on Mensa’s posture are contained in the
    attached operating and financial statements. Our overall strategy is to achieve
    the competitive advantages that can result from increased productivity, market
    focus, and innovation.”

    By
    the beginning of 2XX5 management believed that it was well positioned
    strategically for future growth and profitability. They had pared their
    operations to four main businesses: Financial Services, Energy, Packaging, and
    Forest products. The review for each segment was done by top management with
    the assistance of outside consultants who were all experienced top-level
    executives in each industry. Some of the consultants were retired and some of
    them were still active, but they all had long and successful experience in the
    industry they were consulting on. There is also an outlook section for each
    industry segment that includes estimates of profitability, cash flow, and
    needed investment in the next 10 years. The outlooks were done entirely by the
    consultants.

    Financial
    Services

    Mensa’s first foray into financial
    services came in the early 2000s when a large investment bank brought the
    opportunity to buy Columbus Financial Corporation to the attention of the firm.
    Mensa had hired the investment banker to help with the sale of the unwanted businesses
    and they knew that Mensa was looking to redeploy the assets generated from the
    sale of the assets. Initially Mensa was cool to the idea because it was so far
    removed from their expertise, but on examination it appeared that the insurance
    business had good profitability and cash flow characteristics so when the
    existing management was persuaded to stay on the purchase was made. From this
    base the Financial Services group added more insurance operations to include
    American Life Insurance Company, with its 49 master brokerage general agents
    and 13,000 independent brokers and agents. The firm also added a mortgage
    company, a mortgage insurance company, a number of title insurance companies
    and several title companies to form the core of the real estate-related
    financial services area. By the end of 2XX2 Mensa Financial Services underwrote
    insurance in three broad segments: life and real estate as well as property and
    casualty insurance. The firm was strongly positioned in the Financial Services
    business, but competition was tough.

    Mensa’s
    Financial Services division was not large by national standards, but the firm
    was a surprisingly nimble and successful middleweight in the industry. The
    management of this business had done an efficient job of integrating their many
    acquisitions into the financial services operation, had proven their ability to
    pick their target markets, and avoided serious

    2

    head-to- head competition with bigger
    and more powerful rivals. The future prospects of the division looked good.

    Financial Services Outlook. The
    consultants that looked at the financial services business believed that the
    financial services business would be a good one for a long time. It was,
    relatively speaking, a low capital intensity industry with improving returns
    and strong positive cash flow characteristics. Although Mensa invested more
    capital per dollar of sales than most of their competitors the consultants
    thought this problem would be solved by increasing the size of the operation.
    They believed that Mensa could increase their sales in the division by about
    15% per year and increase returns on segment assets to between 15% and 18%.
    They also expected division sales to increase by at least 15% per year for the
    next decade if they made the needed investment in the business. They
    recommended that the firm invest heavily in the business because they were
    small and would benefit from additional size. Their largest competitor was
    about double the size of Mensa and growing at about 10% per year. The consultants
    believed that for the firm to remain successful in the business which means
    increasing the segment earnings to assets ratio from the current 13% to 18%,
    they would need to invest at least, and they stressed at least, $250,000,000
    per year in the business initially and increase gradually to $300,000,000 in
    5-7 years at which time investment could probably decline to $100,000,000 per
    year. This investment would more than double the assets committed to the
    business within five years. They forecast cash flow from the division, assuming
    the recommended investments are made by the company to be negative $250,000,000
    per year for years 1-3, negative $50,000,000 in years 4 and 5, positive
    $200,000,000 in years 6 and 7, and positive $300,000,000 in future years. The
    consultants believed that Mensa could sell the financial services business for
    about $1,000,000,000 if it were put up for sale and if the firm was patient.

    Energy

    In
    2XX4 Mensa made its first major acquisition in the energy business when they
    bought EasyGas Energy which became the core of their Energy Division. This
    acquisition allowed Mensa to enter several areas of the energy business.
    EasyGas was active in exploration, development, and production of oil and gas,
    operated an interstate natural gas pipeline system extending from the
    Texas-Mexico border to the southern tip of Florida, and also extracted and sold
    propane and butane from natural gas. Prior to the acquisition of EasyGas, Mensa
    had small working interests in offshore and onshore gas and oil properties in
    the Gulf of Mexico and in Mississippi which they purchased in the late 1990s to
    try to develop a better understanding of the business. These were merged into
    the new energy division. EasyGas was the sole supplier of natural gas to
    peninsular Florida and was one of only six U.S. companies selected by PEMEX,
    the Mexican National Oil Company, to purchase gas from that prime source. The
    company’s pipeline operations offered a strong cash flow at relatively low
    risk.

    Prior
    to the purchase of EasyGas Mensa’s nascent energy division had begun
    investigating a number of major and very expensive projects including a
    1,500-mile slurry pipeline that would transport coal from Eastern Appalachia and
    the Illinois basin to the Southeast. If approved, this project would call for
    $2-3 billion in financing over seven years. The company was also considering
    joining with Shell and Mobil in the construction of a 502-rnile carbon dioxide
    pipeline in which the company would have a 13% interest at a cost to Mensa of
    $50,000,000 per

    3

    year for 5 years, and
    was considering converting an 890-mile segment of its 4,300-mile natural gas
    pipeline to petroleum products (while maintaining its natural gas deliveries to
    the Florida market), at a cost of $100,000,000 spread evenly over 5 years. They
    were also considering participating in four major offshore natural gas pipeline
    projects in the Gulf of Mexico to connect into the Florida Gas Transmission
    system. Their share of these projects would cost about $400,000,000 spread over
    10 years. The senior management of the firm was reluctant to curb the
    enthusiasm of the pipeline managers, but they were worried about the possible
    risks of such large ventures and were counting on the management of EasyGas,
    who had agreed to join Mensa and run the Energy Division, to advise them on
    these possible investments.

    Exploration and Production. Mensa
    undertook a joint acquisition (with Allied Corporation) of Suppan Energy Corp.
    at a cost of more than $400 million. This acquisition increased the company’s
    proven reserves of oil and gas by approximately 50% and its undeveloped acreage
    by 50%. Suppan’s emphasis on development drilling also complemented Mensa’s
    activities and strengthened its position in domestic natural gas. In joint
    ventures with Shell Oil, Mensa acquired additional offshore leases and
    participated in extensive exploratory drilling activities. In 2XX6 it spent
    some $400 million on exploration, but was now focusing on developing existing
    fields to improve the firm’s cash flow to try to offset the impact of all the
    investments in the energy business. An industry analyst said of Mensa’s energy
    business:

    “Although
    the company is a baby to the industry giants, it has a strong position in some
    segments. It is the largest supplier of energy to the State of Florida, one of
    the nation’s fastest growing states and that is a good business. However, in
    exploration and production they have no such protected position in an industry
    that is rapidly consolidating into giant firms with the financial resources to
    make, and lose, big bets in exploration. With the looming oil shortage proven
    reserves is where the money will be and Mensa is probably just too small to
    make the needed investments and, more importantly, take the risks associated
    with exploring in deep water and/or hostile environments like Siberia. They
    have the right idea, but their small size, their major competitors were 8 to 10
    times the size of Mensa’s exploration and production unit, makes an inherently
    risky business even more risky. A loss that would be immaterial to an

    Exxon Mobil
    could sink Mensa’s exploration business.”

    Energy Outlook. In 2XX8 the future of
    the energy business looked pretty bright and this view was emphasized by the
    consultants that Mensa brought in to review their energy business. Growth in
    China and India practically guaranteed that worldwide demand would grow much
    faster than was true in the past. The supply problem for the U. S. was
    exacerbated by the fact that China was negotiating long-term contracts to buy
    oil and gas from countries that had traditionally been U. S. suppliers, Canada,
    Mexico, Venezuela, and Norway. China was rapidly ensuring their future access
    to oil and the effect could be to cause future shortages for everyone else. The
    consultants believed that the long-term, worldwide supply and demand picture
    for oil and gas was extremely favorable for those firms that had either
    reserves or the cash flow to find and develop them. They felt that oil prices
    would not drop below $50 per barrel for very long and 10%-15% annual price
    increases was a minimum estimate and the possibility of much larger price
    increases was also more likely than anyone could have guessed even in 2XX7.
    They

    4

    stressed that this forecast did not
    envision any significant disruption in supplies from the middle-east or
    elsewhere. In the event of a major disruption prices could easily exceed $175
    per barrel. Their view was that only a really huge new oil field discovery,
    which was unlikely, or a world-wide recession of major proportions would derail
    their forecast and even the recession would only delay the increase in the
    price of oil. They also mentioned that U. S. oil production had peaked in the
    early 1970s and that one reasonable estimate was that worldwide oil production
    would peak in the early 2000s (2002-2010). If this latter prediction were true
    future increases in the price of oil would be hard to predict but could be
    ruinous until a transition to some other energy source was complete. The
    consultants stressed that given their size Mensa could never hope to grow to a
    competitive size in the industry, but their existing proven reserves and
    promising land holdings would only become more valuable as time passed and the
    supply/demand situation became tighter and tighter. They did not recommend
    major new investment in either exploration or production for the reasons given
    by the analyst quoted above.

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