Unformatted Attachment Preview
WOK YOW IMPORTS, INC.
Enterprise (Entity) Valuation Solution [Parts A through G]:
Chapter 14 Mini Case
Percent Change in Net Sales
% of
33.3% 25.0% 20.0% 16.7%
6.0%
[Thousands of Dollars]
2016 Actual
Pro forma -------------------------------------------NOPAT Statements
Sales
2016
2017
2018
2019
2020
2021
Net Sales
100.0%
150.0
200.0
250.0
300.0
350.0
371.0
Cost of Goods Sold
-50.0%
-75.0 -100.0 -125.0 -150.0 -175.0 -185.5
Gross Profit
50.0%
75.0
100.0
125.0
150.0
175.0
185.5
SG&A Expenses
-20.0%
-30.0
-40.0
-50.0
-60.0
-70.0
-74.2
Depreciation
-5.0%
-7.5
-10.0
-12.5
-15.0
-17.5
-18.6
EBIT
25.0%
37.5
50.0
62.5
75.0
87.5
92.8
Interest
0.0%
0.0
0.0
0.0
0.0
0.0
0.0
EBT
25.0%
37.5
50.0
62.5
75.0
87.5
92.8
Taxes (40% rate)
-10.0%
-15.0
-20.0
-25.0
-30.0
-35.0
-37.1
NOPAT
15.0%
22.5
30.0
37.5
45.0
52.5
55.7
Required Net Working Capital:
Req Cash+Receivables+Inventories
Minus: Payables+Accruals
Req Net Working Capital (RNWC)
Increase in RNWC
Fixed Assets Schedule:
Net Fixed Assets (NFA)
Increase in NFA
Plus: Depreciation
CAPEX
33.3%
-16.7%
50.0
-25.0
25.0
66.7
-33.3
33.3
8.3
83.3
-41.7
41.7
8.3
100.0
-50.0
50.0
8.3
116.7
-58.3
58.3
8.3
123.7
-61.8
61.8
3.5
33.3%
50.0
66.6
16.7
10.0
26.7
83.3
16.7
12.5
29.2
100.0
16.7
15.0
31.7
116.7
16.7
17.5
34.2
123.7
7.0
18.6
25.5
30.0
10.0
-26.7
-8.3
5.0
37.5
12.5
-29.2
-8.3
12.4
45.0
15.0
-31.7
-8.3
20.0
52.5
17.5
-34.2
-8.3
27.5
55.7
18.6
-25.5
-3.5
45.2
5.0
12.4
20.0
376.3
403.8
Free Cash Flows to Entity:
NOPAT
Plus: Depreciation
Minus: CAPEX
Minus: Increase in NWC
Operating Free Cash Flows
Terminal Value CF (r =.18, g =.06)
Total Free Cash Flows (TFCF)
PV of TFCF (18% Discount Rate)
Less: LTD Value
Equity Value
Value Per Share (10,000 shares)
$233.6
$30.0
$203.6
$20.36
Percent Change in Net Sales
33.3% 25.0% 20.0% 16.7%
Percent of Net Sales
2016
2017
2018
2019
2020
100.0% 100.0% 100.0% 100.0% 100.0%
-50.0% -50.0% -50.0% -50.0% -50.0%
50.0% 50.0% 50.0% 50.0% 50.0%
-20.0% -20.0% -20.0% -20.0% -20.0%
-5.0%
-5.0%
-5.0%
-5.0%
-5.0%
25.0% 25.0% 25.0% 25.0% 25.0%
0.0%
0.0%
0.0%
0.0%
0.0%
25.0% 25.0% 25.0% 25.0% 25.0%
-10.0% -10.0% -10.0% -10.0% -10.0%
15.0% 15.0% 15.0% 15.0% 15.0%
WOK YOW IMPORTS, INC.
Enterprise (Entity) Valuation Solution [Parts H and I]:
[Thousands of Dollars]
NOPAT Statements
Net Sales
Cost of Goods Sold
Gross Profit
SG&A Expenses
Depreciation
EBIT
Interest
EBT
Taxes (40% rate)
NOPAT
Required Net Working Capital:
Req Cash+Receivables+Inventories
Minus: Payables+Accruals
Req Net Working Capital (RNWC)
Increase in RNWC
Fixed Assets Schedule:
Net Fixed Assets (NFA)
Increase in NFA
Plus: Depreciation
CAPEX
% of
2016
Sales
100.0%
-50.0%
50.0%
-20.0%
-5.0%
25.0%
0.0%
25.0%
-10.0%
15.0%
Actual
2016
150.0
-75.0
75.0
-30.0
-7.5
37.5
0.0
37.5
-15.0
22.5
33.3%
-16.7%
50.0
-25.0
25.0
66.7
-33.3
33.3
8.3
83.3
-41.7
41.7
8.3
100.0
-50.0
50.0
8.3
116.7
-58.3
58.3
8.3
33.3%
50.0
66.6
16.7
10.0
26.7
83.3
16.7
12.5
29.2
100.0
16.7
15.0
31.7
116.7
16.7
17.5
34.2
30.0
10.0
-26.7
-8.3
5.0
37.5
12.5
-29.2
-8.3
12.4
45.0
15.0
-31.7
-8.3
20.0
52.5
17.5
-34.2
-8.3
27.5
5.0
12.4
20.0
447.1
474.6
Free Cash Flows to Entity:
NOPAT
Plus: Depreciation
Minus: CAPEX
Minus: Increase in NWC
Operating Free Cash Flows
Terminal Value CF (r = .161, g = .06)
Total Free Cash Flows (TFCF)
PV of TFCF (16.1% Discount Rate)
Less: LTD Value
Equity Value
Value Per Share (10,000 shares)
Cost of Capital Worksheet:
"Comparable Firm" Risk Index
Cost of Equity Capital
A-T Cost of LTD Capital
WACC
Percent Change in Net Sales
33.3%
25.0%
20.0%
16.7%
Pro forma -------------------------------------------2017
2018
2019
2020
200.0
250.0
300.0
350.0
-100.0
-125.0
-150.0
-175.0
100.0
125.0
150.0
175.0
-40.0
-50.0
-60.0
-70.0
-10.0
-12.5
-15.0
-17.5
50.0
62.5
75.0
87.5
0.0
0.0
0.0
0.0
50.0
62.5
75.0
87.5
-20.0
-25.0
-30.0
-35.0
30.0
37.5
45.0
52.5
$270.1
$30.0
$240.1
$24.01
2.00
0.220
0.072
0.161
6.0%
---------------------2021
371.0
-185.5
185.5
-74.2
-18.6
92.8
0.0
92.8
-37.1
55.7
123.7
-61.8
61.8
3.5
123.7
7.0
18.6
25.5
55.7
18.6
-25.5
-3.5
45.2
Percent Change in Net Sales
33.3%
25.0%
Percent of Net Sales
2016
2017
2018
100.0%
100.0%
100.0%
-50.0%
-50.0%
-50.0%
50.0%
50.0%
50.0%
-20.0%
-20.0%
-20.0%
-5.0%
-5.0%
-5.0%
25.0%
25.0%
25.0%
0.0%
0.0%
0.0%
25.0%
25.0%
25.0%
-10.0%
-10.0%
-10.0%
15.0%
15.0%
15.0%
20.0%
16.7%
2019
100.0%
-50.0%
50.0%
-20.0%
-5.0%
25.0%
0.0%
25.0%
-10.0%
15.0%
2020
100.0%
-50.0%
50.0%
-20.0%
-5.0%
25.0%
0.0%
25.0%
-10.0%
15.0%
MINI CASE: WOK YOW IMPORTS, INC.
Wok Yow Imports, Inc., is a rapidly growing, closely held corporation that imports and
sells oriental style furniture and accessories at several retail outlets. The equity owners
are considering selling the venture and want to estimate the enterprise or entity value and
then determine the value of the venture’s equity. Following is last year’s income
statement (2013) and projected income statements for the next four years (2014-2017).
Sales are expected to grow at an annual 6 percent rate beginning in 2018 and thereafter.
[$ Thousands]
Net Sales
Cost of Goods Sold
Gross Profit
SG&A Expenses
Depreciation
EBIT
Interest
EBT
Taxes (40% rate)
Net Income
Actual
2013
$150.0
-75.0
75.0
-30.0
-7.5
37.5
-3.5
34.0
-13.6
20.4
Projected -----------------------------------------------2014
2015
2016
2017
$200.0
$250.0
$300.0
$350.0
-100.0
-125.0
-150.0
-175.0
100.0
125.0
150.0
175.0
-40.0
-50.0
-60.0
-70.0
-10.0
-12.5
-15.0
-17.5
50.0
62.5
75.0
87.5
-3.5
-3.5
-3.5
-3.5
46.5
59.0
71.5
84.0
-18.6
-23.6
-28.6
-33.6
27.9
35.4
42.9
50.4
Selected balance sheet accounts at the end of 2013 are as follows: Required cash,
accounts receivable, and inventories accounts totaled $50,000, net fixed assets were
$50,000, and accounts payable and accruals totaled $25,000. Each of these balance sheet
accounts was expected to grow with sales over time. Long-term debt was $30,000 and
there were 10,000 shares of common stock outstanding at the end of 2013.
Data have been gathered for a “comparable” publicly traded firm, Fine Furniture
Products, in Wok Yow’s industry. Fine Furniture’s risk index is judged to be 2.00
compared to a risk index of 1.00 for firms of average riskiness. Management believes
that a 2.00 adjustment factor should be multiplied times the expected market risk
premium for average firms to reflect Wok Yow’s (and Fine Furniture’s) relatively greater
riskiness. Wok Yow’s long-term debt to long-term capital (long-term debt plus equity)
ratio was 40 percent at the end of 2013. The interest rate on long-term U.S. government
bonds is 7 percent, Wok Yow could issue new long-term debt at a 12 percent rate, and the
average expected market risk premium (common stocks over government bonds) is 7.5
percent for average firms.
A.
Project Wok Yow’s net operating profit after-tax (NOPAT) statements for 20142018.
The NOPAT results are shown below in the spreadsheet solution. NOPAT
amounts were: 30.0 (2014), 37.5 (2015), 45.0 (2016), 52.5 (2017), and 55.7
(2018).
B.
Determine the annual increases in required net working capital and capital
expenditures (CAPEX) for Wok Yow for the years 2014 through 2018.
Results are shown below in the spreadsheet solution. The increases in RNWC
were: 8.3 (2014), 8.3 (2015), 8.3 (2016), 8.3 (2017), and 3.5 (2018). The
increases in CAPEX were: 26.7 (2014), 29.2 (2015), 31.7 (2016), 34.2 (2017),
and 25.5 (2018).
C.
Project annual operating free cash flows to the entity for the years 2014 through
2018.
Results are shown below in the spreadsheet solution. Operating free cash flows
were: 5.0 (2014), 12.4 (2015), 20.0 (2016) and 27.5 (2017). An operating free
cash flow of 45.2 was estimated for 2018.
D.
Management initially thought that an 18 percent discount rate was reasonable.
Estimating an appropriate required rate of return on an equity investment is
critical to the valuation effort. For very early stage ventures, various VC “rules-of
thumb” might be used ranging from development stage discount rates of 50%
down to 20% discount rates for relatively mature, but small ventures. The
alternative is to estimate an appropriate discount rate using the security market
line approach described in Chapter 7. A venture that employs some interestbearing debt will have a weighted average cost of capital WACC that is less than
the cost of equity capital. Management has made a rough estimate of the firm’s
WACC or enterprise (entity) discount rate to be 18%.
E.
Use the information from Part D above to estimate Wok Yow’s terminal value
cash flow at the end of 2017.
The terminal value cash flow is estimated to be 376.3 and is calculated by
dividing the estimated operating free cash flow for 2017 of 45.2 by .12 which is
the difference between the discount rate (r = .18) and the perpetuity growth rate (g
= .06). See the spreadsheet solution presented below. In greater detail, the
calculation is: 45.152/(.18 - .06) = 376.267.
F.
Estimate the firm’s enterprise or entity value at the end of 2013.
The enterprise or entity value at the end of 2013 is estimated to be 233.6
(thousands of dollars). See the spreadsheet solution presented below.
G.
Adjust the enterprise value to determine Wok Yow’s equity value in dollars and on
a per share basis at the end of 2013.
The enterprise value of $233.6, minus the long-term debt value of $20, results in
an equity value of $203.6. On a per share basis, the value is $20.36. See the
spreadsheet solution presented below.
H.
Now, estimate Wok Yow’s after-tax cost of long-term debt. Use the risk free rate,
the expected market risk premium, and the risk index for the Fine Furniture
Company to estimate Wok Yow’s cost of equity capital. Determine Wok Yow’s
weighted average cost of capital (WACC).
Cost of common equity capital = 7% + (7.5%)2.00 = 7% + 15% = 22%
After-tax cost of debt = 12%(1 - .40) = 7.2%
WACC = 7.2%(.40) + 22%(.60) = 2.88% + 13.20% = 16.08% or 16.1% rounded.
See the second spreadsheet solution presented below for answers to Parts H and I.
I.
Re-estimate Wok Yow’s enterprise value using the WACC calculated in Part H.
Then, adjust the enterprise value to determine Wok Yow’s equity value in dollars
and on a per share basis at the end of 2013.
Revised terminal value = $447.1 [i.e., actually $45.152/(.161 - .06)]
Revised enterprise value = $270.1
Revised equity value = $240.1 (i.e., $270.1 - $30.0)
Revised per share value = $24.01
See the second spreadsheet solution presented below for answers to Parts H and I.
WOK YOW IMPORTS, INC.
Enterprise (Entity) Valuation Solution [Parts A through G]:
Chapter 14 Mini Case
Percent Change in Net Sales
% of
33.3% 25.0% 20.0% 16.7%
6.0%
[Thousands of Dollars]
2013 Actual
Pro forma -------------------------------------------NOPAT Statements
Sales
2013
2014
2015
2016
2017
2018
Net Sales
100.0%
150.0
200.0
250.0
300.0
350.0
371.0
Cost of Goods Sold
-50.0%
-75.0 -100.0 -125.0 -150.0 -175.0 -185.5
Gross Profit
50.0%
75.0
100.0
125.0
150.0
175.0
185.5
SG&A Expenses
-20.0%
-30.0
-40.0
-50.0
-60.0
-70.0
-74.2
Depreciation
-5.0%
-7.5
-10.0
-12.5
-15.0
-17.5
-18.6
EBIT
25.0%
37.5
50.0
62.5
75.0
87.5
92.8
Interest
0.0%
0.0
0.0
0.0
0.0
0.0
0.0
EBT
25.0%
37.5
50.0
62.5
75.0
87.5
92.8
Taxes (40% rate)
-10.0%
-15.0
-20.0
-25.0
-30.0
-35.0
-37.1
NOPAT
15.0%
22.5
30.0
37.5
45.0
52.5
55.7
Required Net Working Capital:
Req Cash+Receivables+Inventories
Minus: Payables+Accruals
Req Net Working Capital (RNWC)
Increase in RNWC
Fixed Assets Schedule:
Net Fixed Assets (NFA)
Increase in NFA
Plus: Depreciation
CAPEX
33.3%
-16.7%
50.0
-25.0
25.0
66.7
-33.3
33.3
8.3
83.3
-41.7
41.7
8.3
100.0
-50.0
50.0
8.3
116.7
-58.3
58.3
8.3
123.7
-61.8
61.8
3.5
33.3%
50.0
66.6
16.7
10.0
26.7
83.3
16.7
12.5
29.2
100.0
16.7
15.0
31.7
116.7
16.7
17.5
34.2
123.7
7.0
18.6
25.5
30.0
10.0
-26.7
-8.3
5.0
37.5
12.5
-29.2
-8.3
12.4
45.0
15.0
-31.7
-8.3
20.0
52.5
17.5
-34.2
-8.3
27.5
55.7
18.6
-25.5
-3.5
45.2
5.0
12.4
20.0
376.3
403.8
Free Cash Flows to Entity:
NOPAT
Plus: Depreciation
Minus: CAPEX
Minus: Increase in NWC
Operating Free Cash Flows
Terminal Value CF (r =.18, g =.06)
Total Free Cash Flows (TFCF)
PV of TFCF (18% Discount Rate)
Less: LTD Value
Equity Value
Value Per Share (10,000 shares)
$233.6
$30.0
$203.6
$20.36
WOK YOW IMPORTS, INC.
Enterprise (Entity) Valuation Solution [Parts H and I]:
[Thousands of Dollars]
NOPAT Statements
Net Sales
Cost of Goods Sold
Gross Profit
SG&A Expenses
Depreciation
EBIT
Interest
EBT
Taxes (40% rate)
NOPAT
Required Net Working Capital:
Req Cash+Receivables+Inventories
Minus: Payables+Accruals
Req Net Working Capital (RNWC)
Increase in RNWC
Fixed Assets Schedule:
Net Fixed Assets (NFA)
Increase in NFA
Plus: Depreciation
CAPEX
% of
2013
Sales
100.0%
-50.0%
50.0%
-20.0%
-5.0%
25.0%
0.0%
25.0%
-10.0%
15.0%
Actual
2013
150.0
-75.0
75.0
-30.0
-7.5
37.5
0.0
37.5
-15.0
22.5
Cost of Capital Worksheet:
"Comparable Firm" Risk Index
Cost of Equity Capital
A-T Cost of LTD Capital
WACC
6.0%
2018
371.0
-185.5
185.5
-74.2
-18.6
92.8
0.0
92.8
-37.1
55.7
33.3%
-16.7%
50.0
-25.0
25.0
66.7
-33.3
33.3
8.3
83.3
-41.7
41.7
8.3
100.0
-50.0
50.0
8.3
116.7
-58.3
58.3
8.3
123.7
-61.8
61.8
3.5
33.3%
50.0
66.6
16.7
10.0
26.7
83.3
16.7
12.5
29.2
100.0
16.7
15.0
31.7
116.7
16.7
17.5
34.2
123.7
7.0
18.6
25.5
30.0
10.0
-26.7
-8.3
5.0
37.5
12.5
-29.2
-8.3
12.4
45.0
15.0
-31.7
-8.3
20.0
52.5
17.5
-34.2
-8.3
27.5
55.7
18.6
-25.5
-3.5
45.2
5.0
12.4
20.0
447.1
474.6
Free Cash Flows to Entity:
NOPAT
Plus: Depreciation
Minus: CAPEX
Minus: Increase in NWC
Operating Free Cash Flows
Terminal Value CF (r = .161, g = .06)
Total Free Cash Flows (TFCF)
PV of TFCF (16.1% Discount Rate)
Less: LTD Value
Equity Value
Value Per Share (10,000 shares)
Percent Change in Net Sales
33.3%
25.0%
20.0%
16.7%
Pro forma -------------------------------------------2014
2015
2016
2017
200.0
250.0
300.0
350.0
-100.0
-125.0
-150.0
-175.0
100.0
125.0
150.0
175.0
-40.0
-50.0
-60.0
-70.0
-10.0
-12.5
-15.0
-17.5
50.0
62.5
75.0
87.5
0.0
0.0
0.0
0.0
50.0
62.5
75.0
87.5
-20.0
-25.0
-30.0
-35.0
30.0
37.5
45.0
52.5
$270.1
$30.0
$240.1
$24.01
2.00
0.220
0.072
0.161
Instructions for FIN 4305 Project:
This is a group project but you have the option to work alone if you choose to. I
recommend group work since students learn from each other as they collaborate
and the quality of the work tends to be better as a result.
You can form groups of up to 3 people. The “project discussion forum” under
Blackboard can be used to form groups with other students. Once you form your
group, you need to sign up as a group under "groups" section under "course tools" in
Blackboard. Even if you are planning to do the project alone, you still need to do this
because the project submission link will only be available to students who sign up.
This project is based on the WOK YOW IMPORTS, INC. case found in your textbook
under Chapter 14. Please read the case carefully. An excel spreadsheet is provided
that has the solution to the case along with suggested answers to the case questions.
Please go over the excel sheet first and make sure that you can follow the
calculations for the discounted cash flow valuation method (enterprise valuation
method).
All the formulas are built into the excel file so when you go over a cell, you can track
how the calculation for each number on the sheet is done. Pay special attention to
the financial ratios, growth assumptions, calculation of the free cash flows for the
foreseeable future (5 years) and the calculation of the terminal value. These future
free cash flows are then discounted back to time zero using the discount rate
(WACC).
Once you feel comfortable on the model and the solutions to the case, I want you to
answer the following questions to complete your project assignment:
Using the provided financial statements as a starting point:
1. The DCF valuation and pro forma financials with five years of forecasted
growth rates are provided in the original model. Please modify the
model to consider a more successful scenario where Wok Yow’s sales
grow at a more aggressive pace of 40% for five years and then flatten to
a more sustainable growth rate of 7%. What would the stock value per
share be under the new scenario? What kind of strategic changes you
would make in the business model to justify the growth assumption?
How would you do things differently? You can use fictional events to
justify your assumptions.
2. Prepare and present DCF valuations and pro forma financial statements
(five-year explicit period) that justify a $31 and a $56 share price. You
can play with the model assumptions to get to these valuations. Propose
two different business plans that would be targeting these two different
outcomes. Make sure the ratios embedded in your projections conform
to reasonable operating ratio assumptions in the models. Also
remember that higher risk business strategies come with higher
expected returns.
3. Discuss the $31 and $56 IPO prices for Wok Yow within the context of
comparable firms and their multiples. You can use some outside
reference materials from companies in similar industries for
comparison purposes. Then take a position on whether you would
recommend the $31 or $56 IPO. Which one is more feasible? Take a
position on which of the two business plans you would invest in as an
investor, which financial instrument of the company you would want to
invest in and what kind of a return you would expect on your money.
4. Prepare an executive summary discussing the events and decisions
leading to its current situation, the options it currently has moving
forward, and your recommendations for Wok Yow’s near future. The
events in the summary will be fictional.
Guidelines:
•
Please copy and paste the original excel sheet into a new worksheet and make your
changes on the new one for each of the models you are working on. I want to be
able to follow your calculations relating to the answers to each question on a
different excel worksheet in the same file. Highlight the changes that you make on
the model so that your changes can be traced easily.
•
You will need to make changes on the company’s operations in order to increase
growth rate to 50%, and in order to justify the $31 and $56 stock valuations. In all
cases be sure to explain your modeling assumptions on operating and financing of
the venture and provide a summary of the four scenarios.
•
Your grade on the project will be based on the accuracy of your calculations and
more importantly, on the coherent nature of the assumptions of different strategies
and their likely effect on the future projections of the financial model. For example,
a more efficient inventory management system would decrease the company’s
NOWC and would free up cash flow, increasing the value of the firm. I would want
to see that the “improved inventory management” is mentioned in the business
strategy and also the required NOWC amounts lowered in the financial model,
leading to a greater company valuation. If a strategy is mentioned but its financial
implications cannot be traced to the financial model, you will loose points.
•
The work can be completed in a single excel file with multiple worksheets. Your
answers to the 4 questions can be on one worksheet and you can reference your
answers to each question the corresponding worksheet that has the relevant
model. This would make it easier for me to track your answers and your financial
models.