The owner of Big Boy Flea Market (BBFM), passed away on December 30, 2009. His 100% ownership interest in BBFM become part of his estate, on which his heirs must pay estate taxes. The IRS has hired a valuation

Problem 9.4 Traditional WACC Valuation

The owner of Big Boy Flea Market (BBFM), passed away on December 30, 2009. His 100% ownership interest in BBFM become part of his estate, on which his heirs must pay estate taxes. The IRS has hired a valuation expert, who has submitted a report stating that the business was worth approximately $20 million at the time of owners death. The heirs believe the IRS valuation is too high and have hired you to perform a separate valuation analysis in hopes of supporting their position.

a.       Estimate the firm free cash flows for 2010-2014, where the firm’s tax rate is 25%, capital expenditures are assumed to equal depreciation expense, and there are no changes in net working capital over the period.

b.      Value BBFm using the traditional WACC model and the following information:

-          BBFM’s cost of equity is estimated to be 20% and the cost of debt is 10%

-          BBFM’s management targets its long-term debt ratio at 10% of enterprise value

-          After 2014, the long term growth rate in the firm’s free cash flow will be 5% per year.