paper due by noon 9/22/2014

parrino_2e_excel_templates_ch18.xls

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Probs 17-18-19


Use the following information concerning Johnson Machine Tool Company in Problems 18.17,
18.18, and 18.19.
Johnson’s income statement from the fiscal year that ended this past December is:
	Revenue	$ 995
	Cost of goods sold	$ 652
	Gross profit	$ 343
	Selling, general, and administrative expenses	$ 135
	Operating profit (EBIT)	$ 208
	Interest expense	$ 48
	Earnings before taxes	$ 160
	Taxes	$ 64
	Net income	$ 96
All dollar values are in millions. Depreciation and amortization expenses last year were $42 million,
and the company has $533 million of debt outstanding.
18.17	Multiples analysis: You are an analyst at a private equity firm that buys private companies, improves
	their operating performance, and sells them for a profit.Your boss has asked you to estimate
	the fair market value of the Johnson Machine Tool Company.Billy’s Tools is a public
	company with business operations that are virtually identical to those at Johnson.The
	most recent income statement for Billy’s Tools is as follows:
	Revenue	$ 1,764
	Cost of goods sold	$ 1,168
	Gross profit	$ 596
	Selling, general, & administrative expenses	$ 211
	Operating profit (EBIT)	$ 385
	Interest expense	$ 12
	Earnings before taxes	$ 373
	Taxes	$ 147
	Net income	$ 226
All dollar values are in millions. Billy’s had depreciation and amortization expenses of
$71 million last year and had 200 million shares and $600 million of debt outstanding as of the
end of the year. Its stock is currently trading at $12.25 per share.
Using the P/E multiple, what is the value of Johnson’s stock? What is the total value
of Johnson Machine Tool Company?
	Billy Tools' depreciation and amortization expenses	$71	million
	Billy Tools' number of shares outstanding	200	million
	Billy Tools' value of outstanding debt	$600	million
	Billy Tools' current stock price	$12.25	per share
	Johnson Machine Tools' depreciation and amortization expense	$42	million
	Johnson Machine Tools' value of outstanding debt	$533	million
18.17	Billy Tools P/E ratio =
	Johnson Machine Tools value of equity = Billy Tools' P/E ratio * JMT's Net Income		million
	JMT's total value = Value of Equity + Value of Debt		million
18.18	Multiples analysis: Using the enterprise value/EBITDA multiple, what is the total value
	of Johnson Machine Tool Company? What is the value of Johnson’s stock?
18.18	Billy Tools' enterprise value = Billy Tools' equity value + Billy Tools' debt value		million
	Billy Tools EBITDA = Billy Tools' EBIT + Depreciation and amortization expenses		million
	Billy Tools' Enterprise value/EBITDA multiple =		times
	Johnson's EBITDA =		million
	Johnson's implied firm value =		million
	Johnson's value of stock = Its Firm value - Its value of outstanding debt		million
18.19	Multiples analysis: Which of the above multiples analyses do you believe is more
	appropriate?
18.19	While the value estimates in the previous questions are reasonably similar, the enterprise value/EBITDA
	multiple is more appropriate for this analysis. The reason is that the capital structures of Johnson and
	Billy’s differ considerably and the enterprise value/EBITDA multiple is less sensitive to differences in leverage.
	Billy Tools' debt ratio=
	Johnson's debt ratio =

Prob 18.20


18.20	Income approaches:You are using the FCFF approach to value a business.You have estimated
	that the FCFF for next year will be $123.65 million and that it will increase at a rate
	of 8 percent for each of the following four years. After that point, the FCFF will increase
	at a rate of 3 percent forever. If the WACC for this firm is 10 percent, and it has no NOA, what is it worth?
Present Value of Firm = PV of the free cash flows during Years 1-5 + PV of the Terminal Value at the end of Year 5
Present Value of the 5-year growing annuity (PVAn):
PVAn = [CF1/(WACC - g) ] x [1-{(1+g)/(1+WACC)}n]
Present Value of the Terminal Value in Year 5 (PV(TV5):
PV(TV5) = [CF1(1+g1)4(1+g2)]/[(WACC-g2)]*[1/(1+WACC)5]
Next year's FCF =		$123,650,000
Growth rate of FCF in Years 1-5 (g1)=		8%
Number of years of 8% growth=		5	years
Growth rate in second phase (g2)=		3%	per year, forever
WACC =		10%
PVAn	=
PV(TV5)	=
PVFirm	=

Prob 18.21


18.21	Valuing a private business: You want to estimate the value of a privately owned restaurant
	that is financed entirely with equity. Its most recent income statement is as follows:
		Revenue	$ 3,000,000
		Cost of goods sold	$ 600,000
		Gross profit	$ 2,400,000
		Salaries and wages	$ 1,400,000
		Selling expenses	$ 100,000
		Operating profit (EBIT)	$ 900,000
		Taxes	$ 315,000
		Net income	$ 585,000
	You note that the profitability of this restaurant is significantly lower than that of comparable
	restaurants, primarily due to high salary and wage expenses. Further investigation
	reveals that the annual salaries for the owner and his wife, the firm’s accountant, are
	$900,000 and $300,000, respectively. These salaries are much higher than the industry
	median salaries for these two positions of $100,000 and $50,000, respectively.
	Compensation for other employees ($200,000 in total) appears to be consistent with the
	market rates. The median P/E ratio of comparable restaurants with no debt is 10.What
	is the total value of this restaurant?
				Industry median
		Owner's annual salary	$ 900,000	$ 100,000
		Owner's wife's salary	$ 300,000	$ 50,000
		Median PE ratios (no-debt firms)	10
The Income statement must be adjusted to reflect "realistic" salaries and wages
		Revenue
		Cost of Goods Sold
		Gross Profit
		Salaries and Wages
		Selling Expenses
		Operating Profit (EBIT)
		Taxes
		Net Income
The Firm's value can then be estimated by multiplying the adjusted net income by the Industry median PE ratio
Firm's total value = Net Income * Industry median PE ratio

prob 18.23


18.23	You plan to start a business that sells waterproof sun block with a unique formula that
	reduces the damage of UVA radiation 30 percent more effectively than similar products
	on the market.
	You expect to invest $50,000 in plant and equipment to begin the business.The targeted
	price of the sun block is $15 per bottle.You forecast that unit sales will total 1,500
	bottles in the first month and will increase by 20 percent in each of the following months
	during the first year.You expect the cost of raw materials to be $3 per bottle. In addition,
	monthly gross wages and payroll are expected to be $13,000, rent is expected to be
	$3,000, and other expenses are expected to total $1,000. Advertising costs are estimated
	to be $35,000 in the first month but to remain constant at $5,000 per month during the
	following eleven months.
	You have decided to finance the entire business at one time using your own savings.
	Is an initial investment of $75,000 adequate to avoid a negative cash balance in any given
	month? If not, how much more do you need to invest up front? How much do you need
	to invest up front to keep a minimum cash balance of $5,000? What is the break-even
	point of the business?
Initial investment for plant and equipment					$ 50,000
Unit selling price					$ 15.00
Unit sales in first month					1500	bottles
Growth in sales after 1st month (for Year1)					20%	per month
Cost of raw materials per bottle					$ 3.00
Monthly gross wages and payroll					$13,000
Rent per month					3000
Other expense per month					1000
Advertising costs (1st month)					$35,000
Monthly advertsing costs (Months 2-12)					$5,000
Initial cash balance					$75,000
Desired minimum monthly cash balance					$5,000
Monthly Cash Budget
Month		1	2	3	4
Beginning Cash Balance
Cash Receipts
Cash Sales
Total Cash Available
Cash Payments
Operations
Raw Material
Gross Wages and Payroll
Advertising
Rent
Other Expenses
Operations Total
Financing and Investments
Capital Expenditures
Total Cash Payments
Ending Cash Balance
Answer: No, a beginning cash balance of $75,000 is not adequate to avoid a negative cash
balance even in the first three months. Since, there is a maximum shortfall of $9400 in Month 2		You will need to invest an additional amount of $9400
to avoid the shortfall in Month 2, i.e. $84,400. If a $5,000 desired minimum cash balance is
needed, the initial cash balance will have to be increased by that amount, i.e. to $89,400
Break-even point calculation:
In Month 1	Month 1	Months 2-12
Total fixed costs =
Contribution margin =
Break-even sales =			bottles
	Month 1	Month 2	Month 3	Month 4	Month 5	Month 6
Expected sales per month
Cumulative sales per month
Cumulative break-even

Break-even sales=Fixed costs/(Price-Variable costs)

Prob 18.24


18.24	For the previous question, assume that you do not have sufficient savings to cover the
	entire amount required to start your sun-block business. You are going to have to get
	external financing. A local banker whom you know has offered you a six-month loan of
	$20,000 at an APR of 12 percent.You will pay interest each month and repay the entire
	principal at the end of six months.
	Assume that instead of making a single up-front investment, you are going to
	finance the business by making monthly investments as cash is needed in the business.
	If the proceeds from the loan go directly into the business on the first day and
	are therefore available to pay for some of the capital expenditures, how much money do
	you need to pull out of your savings account every month to run the business and keep
	the cash balances positive?
	Bank loan =	$ 20,000	Interest rate=		12%
	Monthly interest payment =	$ 200	Loan paid off in Month		6
	Monthly Cash Budget
	Month	1	2	3	4	5	6
	Beginning Cash Balance
	Cash Receipts
	Investments by owner
	Cash Sales
	Total Cash Available
	Cash Payments
	Operations
	Raw Material
	Gross Wages and Payroll
	Advertising
	Rent
	Other Expenses
	Operations Total
	Financing and Investments
	Capital Expenditures
	Debt/Interest Payment
	Total Cash Payments
	Ending Cash Balance
	Answer: