Makes You Better Mini-Case1 Dash Riprock, mergers and acquisitions consultant extraordinaire, was in the final stages of estimating the value of Makes You Better Corp. Makes You Better is a biopharmaceutical company located in Eastern Europe. I Wanna Get Bigger, Inc., a U.S.-based pharmaceuticals company, was considering the acquisition of Makes You Better and had retained Riprock to estimate a fair value. Riprock had obtained data on trading multiples for a sample of companies comparable to Makes You Better. These companies were also in the biopharmaceuticals industry. Multiples for the comparable companies are shown in Exhibit 1. Values for Makes You Better were calculated by applying the mean and median values of the trading multiples to the appropriate bases for Makes You Better. The results are shown in Exhibit 2. Regarding the estimation of an overall value for Makes You Better using the trading multiples, Riprock was concerned about the dispersion in the various ratios and the potential for outliers to unduly influence the results. Riprock had also estimated values for Makes You Better using a discounted cash flow methodology, utilizing data obtained from Makes You Better and independent sources. One key factor was whether or not Makes You Better would gain access to the Western European Market in 2011. Riprock estimated the discounted cash flow value assuming entry into Western Europe (Exhibit 3) and assuming no entry into Western Europe (Exhibit 4). Industry consultants were slightly more inclined to believe that Makes You Better would gain entry into Western Europe as opposed to not gaining entry. Riprock was now faced with the task of utilizing the analysis to estimate the value of Makes You Better. He believed that both methods had their strengths and weaknesses. He was slightly more confident in the discounted cash flow methodology. 1. Estimate the value of Makes-You-Better using trading multiples. 2. Estimate the value of Makes-You-Better using discounted cash flow analysis. 3. Estimate the value of Makes-You-Better. In other words, use any or all of the analysis to determine how much you would be willing to pay for Makes-You-Better. Professor Emery Trahan prepared this case for classroom discussion. Copyright © Emery A. Trahan, 2008. 1 1 EXHIBIT 1 MULTIPLES FOR COMPARABLE COMPANIES, 2007 Company Makes You Sleepy Makes You Anxious Make You Hungry Makes You Crazy Makes You Hairy Makes You Vomit Mean Median Ratio of Ratio of Ratio of Ratio of Ratio of Stock Price Stock Price Stock Price Stock Price Stock Price to Annual to Net to Book to EBT to EBIT Revenue Income Equity 121.90 NA 4.90 NA NA NA NA NA NA NA 7.00 53.70 3.10 44.57 99.83 NA 66.70 NA NA NA 18.60 106.30 8.70 102.34 148.94 2.50 NA 10.30 NA NA 37.50 12.80 75.57 66.70 6.75 6.80 73.45 73.45 124.38 124.38 EXHIBIT 2 VALUE OF MAKES YOU BETTER IN 2007 USING COMPARABLES GUIDELINE MEAN Stock price/Net Income Stock price/Book Equity Stock price/Annual Revenue Stock price / EBT Stock price / EBIT M AKES YOU BETTER VALUE ($ M) 75.57 6.75 37.50 73.45 124.38 $49,605 $24,031 $106,488 $48,751 $87,810 GUIDELINE MEDIAN 66.70 6.80 12.80 73.45 124.38 M AKES YOU BETTER VALUE ($ M) $46,030 $24,209 $48,961 $48,751 $87,810 Note: Makes You Better 2007 amounts (in Millions $): Net Income = $403, Book Equity = $744, Revenue=$2,329, EBT = 403, and EBIT = $552. Makes You Better values reflect the estimated equity values plus $19,150,000 of debt (long-term plus current portion of long-term). 2 EXHIBIT 3 DISCOUNTED CASH FLOW VALUATION ASSUMING COUNTRY-ADJUSTED COST OF CAPITAL AND ENTRY INTO WESTERN EUROPE Revenue Expenses (A) EBT Tax (B) Net Income Operating Cash Flow (C) Terminal Value (D) Total Cash Flow Actual 2007 $2,329 1,926 $403 0 $539 $688 2008 $5,682 4,887 $795 0 $795 $2,313 2009 $5,739 4,934 $805 0 $805 $2,860 2010 $12,915 10,918 $1,997 0 $1,997 $3,450 2011 $20,505 17,247 $3,258 0 $3,258 $4,676 2012 $27,775 23,309 $4,466 0 $4,466 $5,911 $48,524 $688 $2,313 $2,860 $3,450 $4,676 $54,435 2008 2009 2010 2011 2012 $2,313 $2,860 $3,450 $4,676 $54,435 Total Cash Flow Present Value Marketable Securities Total Value Discount Rate Terminal Growth Rate $35,534 1,500 $37,034 15.47% 5.0% Notes: A. COGS is expected to be a constant 15% of sales over the 2007-2012 period. SG&A is expected to be a constant 68% of sales over the 2007-2012 period. These are assumed to include depreciation of the new facility. Makes You Better does not pay taxes for the period 2007 -2012; its tax rate after 2012 is assumed to be 24%. Operating cash flow is computed as net income plus interest expense, plus depreciation expense, minus the increase in net working capital, minus capital expenditures. Depreciation is added back for the new facility. Capital expenditures are assumed to offset other depreciation. The terminal value is computed using cash flow for 2012 (minus taxes of 24% on income), capitalized at the cost of capital. 3 EXHIBIT 4 DISCOUNTED CASH FLOW VALUATION ASSUMING COUNTRY-ADJUSTED COST OF CAPITAL AND NO ENTRY INTO WESTERN EUROPE Revenue Expenses (A) EBT Tax (B) Net Income Operating Cash Flow (C) Terminal Value (D) Total Cash Flow Actual 2007 $2,329 1,926 $403 0 $539 $688 2008 $5,682 4,887 $795 0 $795 $2,313 2009 $5,739 4,934 $805 0 $805 $2,860 2010 $7,515 6,415 $1,100 0 $1,100 $2,553 2011 $10,605 8,992 $1,613 0 $1,613 $3,031 2012 $12,475 10,551 $1,924 0 $1,924 $3,369 $29,150 $688 $2,313 $2,860 $2,553 $3,031 $32,519 2008 2009 2010 2011 2012 $2,313 $2,860 $2,553 $3,031 $32,519 Total Cash Flow Present Value Marketable Securities Total Value Discount Rate Terminal Growth Rate $23,350 1,500 $24,850 15.47% 5.0% Notes: A. COGS is expected to be a constant 15% of sales over the 2007-2012 period. SG&A is expected to be a constant 68% of sales over the 2007-2012 period. These are assumed to include depreciation of the new facility. Makes You Better does not pay taxes for the period 2007 -2012; its tax rate after 2012 is assumed to be 24%. Operating cash flow is computed as net income plus interest expense, plus depreciation expense, minus the increase in net working capital, minus capital expenditures. Depreciation is added back for the new facility. Capital expenditures are assumed to offset other depreciation. The terminal value is computed using cash flow for 2012 (minus taxes of 24% on income), capitalized at the cost of capital. 4
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