Reeby sports Essay
Reeby sports
George Reeby proposes to sell 90,000 shares, or about 22%, of his company. How much are those shares worth? We have to value the company using George’s forecasts.
The forecasts presented in Tables 4.10 and 4.11 do not show free cash flow and financing requirements. These are calculated in Table 1. Note that free cash flow for 2005 is $2.3 million. But dividends are $2.0, so the company will need 2.3 + 2.0 = $4.3 million in outside equity financing.
Table 2 shows that the book value of equity is forecasted to grow from $40.71 million in 2004 to $63.31 million at the end of 2010. Table 3 works out earnings, dividends and free cash flow for 2011. By that time Reeby Sports should be earning 12% on equity, paying out 40% of earnings, and growing steadily at 7.2% per year. Note that gross investment equals depreciation plus 60% of earnings. s
It’s easiest to value the company by assuming that its current shareholders contribute all of the $4.3 million required in 2002 and receive all of the free cash flow afterwards. Note from Table 1 that the present value of free cash flow from 2004 to 2010 is $8 million.
Of course there are several ways to calculate PVH, the horizon value in 2010. The constantgrowth DCF formula gives
implying a company value in 2003 of:
© 2002, R. A. Brealey and S. C. Myers
Next suppose that Reeby Sports will lose its competitive edge by 2010 and will have no PVGO looking forward from that date. In that case we just capitalize 2011 earnings at 10%:
George also has a “comparable,” Molly Sports. The case gives three ratios for Molly:
Ratio2010 ValuationPV in 2003
Markettobook = 1.51.5 x 63.31 = 94.97$56.73 million
Priceearnings = 1212 x 7.60 = 91.20$54.80 million
Dividend yield = .03
$60.00 million
These calculations imply higher current valuations for Reeby Sports — higher than the DCF calculations presented earlier. Perhaps George should revisit the forecasts in Tables 4.10 and 4.11.
Note that all the valuations presented so far are Reeby Sports as a whole. To get pershare value, just divide by 200,000.
These valuations also assume that George (or the new shareholders that buy the share issue in 2003) put up all the additional equity financing in 2005. That is not George’s plan. Let’s work out the present value of Reeby Sports to current (year 2003) shareholders. We’ll use the constantgrowth formula for PVH.
First calculate PV at the end of 2005 after that year’s investment and financing.
= $77.2 million.
To raise $4.3 million, new shares will have to comprise 4.3/77.2 = .0557, or
5.57% of the company, leaving 94.43% for the old shareholders. The number of new shares will be 70,141, because
The value to old shareholders in 2003 is:
PV = = $63.71 million,
just as in our earlier calculation. Again, all PVs and cash flows can be converted to pershare units by dividing by 200,000.
Table 1: Reeby Sports — Investment, Financing Requirements and Free Cash Flow (Figures in $ millions)
2004200520062007200820092010
Aftertax profits
5.25
5.70
3.00
3.40
4.35
6.00
7.60
Dividends2.002.002.502.502.502.503.00
Retained profits3.253.70.50.901.853.504.60
+ Depreciation2.403.103.123.173.263.443.68
= Retained cash flow5.656.803.624.075.116.948.28
– Investment5.6511.103.624.075.116.948.28
= Financing required0 4.3000000
Free cash flow2.00 2.302.502.502.502.503.00
(= Dividends – financing required)
PV of free cash flow at 10% = 8.01, about $8 million
Table 2: Investment and book value
(Figures in $millions)
2004200520062007200820092010
Equity book value,
start of year
40.71
43.96
51.96
52.46
53.36
55.21
58.71
+ Investment5.6511.103.624.075.116.948.28
– Depreciation2.403.103.123.173.263.443.68
= Equity book value,
end of year43.9651.9652.4653.3655.2158.7163.31
Table 3: Earnings, Investment and Dividends for 2011
(Figures in $millions)
Aftertax profits7.6012 % on startofyear book equity
Dividends3.0440 % payout
Retained profits4.567.2 % growth
+ Depreciation3.95
= Retained cash flow8.51
– Investment8.51= depreciation + 60% of profits
= Financing required0
Free cash flow3.04
(= Dividends – financing required)
A

Subject: Cash flow, Depreciation,

University/College: University of California

Type of paper: Thesis/Dissertation Chapter

Date: 11 March 2016

Words:

Pages:
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