Three Valuation Methods

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1. A firm has the opportunity to do a one-shot project. It requires a date 0 initial outlay for new investment of $250,000. During the initial five-years, it will generate the following before-tax cash flows: date 1 = $380,000, date 2 = $430,000, date 3 = $520,000, date 4 = $460,000, date 5 = $280,000, and $120,000 each year thereafter. The project’s tax rate is 36.0%, its unlevered cost of capital is 11.6%, and the riskfree rate (= cost of debt) is 3.7%. The company has precommitted to a particular quantity of debt on the following dates to support this project: date 0 = $130,000, date 1 = $220,000, date 2 = $270,000, date 3 = $240,000, date 4 = $150,000, and $70,000 each year thereafter. What is the project’s NPV 

The Adjusted Present Value Approach to Valuing Leveraged Buyouts - Cheek Products

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The text is Corporate Finace by Ross, Westerfield, Jaffe, 8th edition

Cheek Products was founded 53 years ago by Joe Cheek and originally sold snack foods such as potato chips and pretzels.  Through acquisitions, the company has grown into a conglomerate with major divisions in the snack food industry, home security systems, cosmetics, and plastics.  Additionally, the company has several smaller divisions.  In recent years the company has been underperforming, but the company’s management doesn’t seem to be aggressively pursuing opportunities to improve operations (and the stock price).

Meg Whalen is a financial analyst specializing in identifying potential buyout targewrts.  She believes that two major changes are needed at Cheek.  First, she thinks that the company would be better off if it sold several divisions and concentrated on its core competencies in snack foods and home security systems.  Second, the company is financed entirely with equity.  Because the cash flows of the company are relatively steady, Meg thinks the company’s debt/equity ratio should be at least .25.  She believes these changes would significantly enhance shareholder wealth, bust she also believes that the existing board and company management are unlikely to take the necessary actions.  As a result, Meg thinks the company is a good candidate for a leveraged buyout.

Meg has suggested the potential LBO to her partners.  Her partners have asked Meg to provide projections of the cash flows for the company.  Meg has provided the following estimates (in millions):