On December 8 2000 General Mills announced to acquire the worldwide business of Pillsbury from Diageo PLC. General Mills issued 141 million shares of its common stock to Diageo shareholders. There was following contingent payment by Diageo to General Mills. At the closing Diageo would establish an escrow fund of $642 mil. Upon the first anniversary date of the closing Diageo was required to pay from this fund an amount to General Mills depending on General Mills share price.
$642Mil if the average daily share price for 20 days was $42.55 or more
$0.45 mil if the average daily share price were $38 or less.
Variable amount if the average daily share price were between $38 and $42.55. Diageo would retain the amount by which $42.55 would exceed the average daily share price for 20days times the amount of General Mills shares held by Diageo (141 million shares).
a. Draw the diagram for this claw-back provision.
b. Calculate the value of claw-back provision using Black-Scholes model. Assume the stock price of General Mills on the first anniversary date is $ 41 and standard deviation of General Mills stock is 34%.