The following information is available about Chiantivino Corp. (CC): An activist
ID: 2485015 • Letter: T
Question
The following information is available about Chiantivino Corp. (CC):
An activist investor is confident that by terminating CC’s money-losing fortified wine division, she can increase free cash flow by $4 million annually for the next decade. In addition, she estimates that an immediate, special dividend of $10 million can be financed by the sale of the division.
a. Assuming these actions do not affect CC’s cost of capital, what is the maximum price per share the investor would be justified in bidding for control of CC? What percentage premium does this represent?
b. Show your answer if you conduct a sensitivity analysis by assuming the cost of capital is 15 percent and the increased cash flow is only $3.5 million per year.
Explanation / Answer
Answer
a) The maximum justifiable premium =the fair marekt value of CC under new management -the fair marekt value of CC under existing management
the fair marekt value of CC under existing management =Current market value of firm + market value of interest bearing debt
=8*10+75
=$ 155 millions
the fair marekt value of CC under new management = $ 155 millions+present value of enhancements
=$ 155 millions+$4 million * PVAF@14% for 10 years+$10 million for sale of division
= 155+4*5.216+10
Fair market value of business =$ 185.86 millions
Fair market value of equity =$ 185.86 millions-75 million
=$ 110.86 millions
Fair market value of equity per share = $ 110.86 millions/10
=$ 11.09 per share
Premium over the existing price($ 8) = 38.6%
Fair market value of the firm assuming a 15 % discount rate and a $ 3.5 million annuity = 155+3.5(5.019)+10
=$ 182.57 million.
Value of equity =$ 182.57 million.-$ 75 million
=$ 107.57 million
Value per share =107.57/10
=$v10.76 per share
Premium over the existing price($ 8) = 34.5%
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.