CourseLover
$10/per page/Negotiable
PROBLEM 9-12 MINI-CASE TRADITIONAL WACC VALUATION
12
Setting: It is early January 2010, and as the chief financial officer of TM Toys Inc., you
are evaluating a strategic acquisition of Toy Co. Inc. (the “target”).
Industry Overview: The toys-and-games industry consists of a select group of global
players.The $60 billion industry (excluding videos) is dominated by two U.S. toy makers:
Mattel (Barbie, Hot Wheels, Fisher-Price) and Hasbro (G.I. Joe, Tonka, Playskool).
International players include Japan’s Bandai Co. (Digimon) and Sanrio (Hello Kitty), as
well as Denmark’s LEGO Holding. Success in this industry is dependent on creating
cross-culturally appealing brands backed by successful marketing strategies. Toy companies achieve success through scoring the next big hit with their target consumers and
unveiling the “must-have” toys. Historically, we have seen significant merger and acquisition activity and consolidation among brands in this industry.
Target Company Description: Toy Co. Inc. is a multibrand company that designs and
markets a broad range of toys and consumer products. The product categories include:
Action Figures, Art Activity Kits, Stationery, Writing Instruments, Performance Kites,
Water Toys, Sports Activity Toys, Vehicles, Infant/Pre-School, Plush, Construction Toys,
Electronics, Dolls, Dress-Up, Role Play, and Pet Toys and Accessories. The products are
sold under various brand names.The target designs, manufactures, and markets a variety
of toy products worldwide through sales to retailers and wholesalers and directly to consumers. Its stock price closed on 12/31/09 at $19.49 per share.
Exhibit P9-12.1 Planning Period Cash Flow Estimates
Toy Co. Inc. ($ in Millions) Projected Firm Free Cash Flows
Fiscal Year Ended 12/31/10 12/31/11 12/31/12 12/31/13 12/31/14
Net Operating Income $733.16 $757.63 $783.64 $799.32 $ 815.30
Less: Taxes 201.27 207.98 235.09 239.80 244.59
NOPAT $531.90 $549.65 $548.55 $559.52 $ 570.71
Plus: Depreciation 183.58 186.21 191.80 195.64 199.55
Less: Capital Expenditures (180.00) (212.82) (219.20) (223.59) (228.06)
(Increase) in Working Capital (50.37) 43.54 (27.68) (19.82) (20.21)
Equals FCFF $485.11 $566.59 $493.47 $511.76 $ 521.99
EBITDA $916.74 $943.84 $975.45 $994.95 $1,014.85
Exhibit P9-12.2 Estimate a “Risk-Appropriate” Discount Rate
■Cost of debt—Estimated borrowing rate is 6.125% with a marginal tax of 27.29%,
resulting in an after-tax cost of debt of 4.5%.
■Cost of equity—Levered equity beta for Toy Co. is .777; using the capital asset pricing
model with a 10-year Treasury bond yield of 4.66% and a market risk premium of 7.67%
produces an estimate of the levered cost of equity of 10.57%.
■Other—Diluted Shares of Common Equity outstanding on 12/31/09: 422,040,500 shares;
Closing Stock Price: $19.49; Debt Value Outstanding 12/31/09: $618,100,000
■Weighted average cost of capital (WACC)—Using the target debt to value ratio of 6.99%,
the WACC is approximately 10.14%.
Valuation Assignment: Your task is to estimate the intrinsic value of Toy Co. Inc.’s
equity (on a per share basis) on 12/31/09 using the enterprise DCF model; this will assist
you with determining what per share offer to make to Toy Co. Inc.’s shareholders. Treat
all of the results/forecasts for the fiscal year ended 2010–2014 as projections. Your
research on various historical merger and acquisition transactions suggests that comparable toy companies have been acquired at Enterprise Value/EBITDA multiples of
10.5×–11.5×. This is your assumption for a terminal-value exit multiple at the end of the
forecast period, 2014. Exhibit 1 includes the target’s planning period cash flow estimates,
and Exhibit 2 provides market and other data for calculation of a weighted average cost
of capital (WACC) for a discount rate.
Complete all tabs
Titman, Sheridan; Martin, John D. (2014-04-08). Valuation (2nd Edition) (Prentice Hall Series in Finance) (Page 353). Prentice Hall. Kindle Edition.