Weighted Average Cost of Capital and Yeats

superfluous Credit Assignment Yeats Valves and Controls Inc. Completed as a Group with the Following Individuals (in alphabetic narrate by last name) Adetunji Adeniyi tung tree F. Cheng Gregory Chiu Rashmin Patel WenHao Zhang Course Title Accounting and finance Course No. /Section MG6093 teacher Frank X. Apicella November 28, 2012 Yeats Valves Question The following ar questions which should focus the groups on important aspects of the Yeats Valves eggshell. stigmatise the actual case name is Yeats Valves and Controls, Inc. The case itemise is UV0094.There is also a spread piece of paper that number is UV0184. As mentioned the corresponding case is TSE transnational Corp. case UV0114. 1. What is the situation that this bon ton faces? Yeats Valves and Controls, Inc. is shortly considering a conjugation with TSE International Corporation. The founder, who is hold in and CEO, W. B. posting Yeats, is about to turn his 62nd natal day and does non be draw a date plan. He is bear on with the approaching day of his caller as none of the some early(a) executives hobo take his place because they be solely specialists. circuit board Yeats believes that TSE burn provide stability to Yeats as he is reaching retirement, and TSE is a bigger play a foresighted with better marketing and globose distribution channels. However, he is citeed with the mark off of the dickens companies even though he thinks TSE is a better partnership than other alternatives. 2. What argon the strengths and weaknesses of Yeats and its counterparty, TSE? Unlike TSE, which is more global-oriented with verifying distribution channels, Yeats has a stronger national and impart distribution channel.TSE has a larger corporation market production system ( proud volume) dapple Yeats has a more customized market production (lower volume). In addition, Yeats has a strong R&D, having m any(prenominal) patents for multiple coatings, in particular with its modish climb u pment of the out view roster broadcast that has a high-profile government contract. This mightiness not be reflected in the stock of the company as a growth opportunity. 3. wherefore should Yeats and TSE lack to negotiate a uniting deal?Yeats is considering this amalgamation deal because it would allege a succession plan for the company as TSE is a much larger company that kitty offer Yeats fiscal stability without having Yeats to identify new large(p) (debt and beauteousness) on its own to fund the broadening Gyre Program (an advanced hydraulic-controls system). Yeats take additional funding in order to hold back the R&D of the siding Gyre Program. Also, TSE has the expertness of mass manufacturing that Yeats consume for widening its reach in commercialize distribution.In order to maintain a free-enterprise(a) edge, Yeats need twain the finance and manufacturing capabilities of TSE as other competitors in the same effort have been consolidating more and more. Ho wever, philippic Yeats is concerned about losing voting control from a merger with TSE. He also wants to visualize that Yeats employees are kept after the merger and its stockholders gain prise from the merger. He wants TSE to continue the R&D and commercialization of the Widening Gyre Program and for him to ride out on as head of Yeats until TSE can amply operate Yeats by ffering him a reasonable bonus plan. Though Bill Yeats could acetify to another company, Rockheed Marlin, a large self-denial contractor, or other companies, he prefers TSE because he is familiar with TSE and they have complementary needs. Bill Yeats also ruled out a joint venture with TSE because he felt up it was an inferior alternative as it get out have the same integration issues. To get tax obligations, Yeats and TSE want to complete the merger in a stock-swap deal. 4. Use e military rank analysis to de endpointine the valuation of Yeats. What are the divulge value drivers?As mentioned above Note the Harvard web site has a student spreadsheet for Yeats Valves that youshoulduse as the tush for your analysis. Questions are contiinued below One vogue of determining valuation of Yeats is through WACC, the weight Average Cost of Capital. It is the minimum government issue a company needs to collect in order to satisfy its investor make (as weighted for the amount of debt vs. right in the target/capital structure), which is what the company must pay investors to raise new pay to support new projects or ventures.WACC is particularly useful here because Yeats has no debt, thus, it is an equity financed company. In the case of Yeats, the company must have capital to continue to develop and market its new Widening Gyre Program. The formula for WACC = Re (E/V) + Rd (D/V)(1-t) However, because Yeats does not have debt, the second half of this formula, Rd(D/V)(1-t) is not necessary. cosmos that Yeats has zero debt, the value of its equity is in full, which re breaks its Enterprise lever. Tax (t) is determined in the case as 40% or . 40 (p. 5).We must then cypher the CAPM for the salute of equity (see Excel sheet for details) Re = Rf + beta (Rm-Rf) Re = Required Return on equity Rf = attempt Free appreciate = 5. 98 (p. 16) Beta = Measure of Risk relative to the general market (volatility) = 1. 5 (p. 5) Rm-Rf = Equity Market Risk pension (EMRP) = 5. 5 (p. 16) Rm = Market Risk Rf = Risk Free Assets (U. S. treasury security) With Beta at 1, the stock damage changes in precise tandem with the market, but with Yeats beta at 1. 5, it is more unsettled than a group of peer stocks. Thus, Re = Rf + Beta (Rm-Rf) Re = 5. 98 + 1. 5 x 5. 5Re = 14. 23%, the cost of equity at for Yeats Then answer for WACC = Re (E/V) + Rd (D/V)(1-t) WACC = 14. 23 (100%) + 0 (0%) (1-40%) WACC = 14. 23% Addtional Questions for Yeats / TSE cases 5. What do you believe Yeats valves is worth? What key financial assumptions determine the mark of high and low values in your v aluation analysis? Also, draw on any other valuation approaches and information that you can. With WACC = 14. 23% Assuming Terminal Growth tread = 4% 1) Terminal jimmy (or present value at a future point) with $ represented in 1,000 = $7059. 8 (1+4%) (14. 23% 4%) $71771. 1 = $72 million 2) DCF (Discounted currency Flow mensural using a financial calculator) CF0 = 0 CO1 = 4689. 3 CO2 = 4584. 3 CO3 = 5302. 1 CO4 = 6127. 4 CO5 = 78830. 9 I = 14. 23 NPV = 55306. 17 NPV = $55. 306 million 3) Equity Value= 55,306,170 Minus Debt= 0 Divided by Outstanding Shares = 1,440,000 or $55,306,170 1,440,000 Equity Value per Share = $38. 407 per share Other valuations can include comparing P/E ratios with other peer companies. Also similar are hurt/Revenues, Price/EBIT and Price/EBITDA. See exhibits 8 and 9 for comparable Ratios of Peer Firms. 6.What are the advantages and disadvantages of a faction between Yeats and TSE Int? The advantages of combining Yeats with TSE would be that Yeats can offer R&D expertness that TSE lacks, and TSE can offer manufacturing and marketing expertise that Yeats lacks. With TSEs commercialized global reach and Yeats national government contracts, it would be evaluate that there would be financial synergies that would value both companies in the semipermanent, including cost savings from greater purchasing power for materials and components, and application of TSEs Six Sigma for higher tonus control savings.This would increase value to stockholders of both organizations and offer diversification. However, the disadvantage would be that the two companies operate differently and volition have to find a common instal that would allow them to merge their cultures. One of the concerns mentioned in the case is that Yeats has a more entrepreneurial operation that might not fit TSE. Both companies will have to be open-minded to learn each others methods of operations. 7. What risks do TSE Int. and Yeats Valves face in the proposed merger?Con sider a range of transaction, financial and operating risks. What effect do these risk factors have on the value of Yeats Valves? In the proposed merger, TSE will not want to over pay for the proposed merger temporary hookup Yeats will not want to be under-valued in the stock swap. Yeats has a concern that TSE may under-value its Widening Gyre Program, which could be under-estimated by the market impairment. Bill Yeats wants to stay on to operate Yeats after the merger with a bonus and return to R&D rather than focusing on raising capital.TSE has to know how much value such a transaction will offer TSE being that TSE has very shortsighted experience in financing R&D. Both companies must consider their differences in operating cultures and the risks involved over the long-term viability of the two companies. TSE must consider how long they will have Bill Yeats as he is nearing retirement at a time when TSE might need Bill Yeats to maintain the success of this merger. What long ter m bonuses may be required to seduce Bill Yeats to remain, and what succession plan might TSE have to come up with for Yeats Inc.?These are all risks to both parties. 8. Develop a negotiating strategy i. e. , an open asking price to sell your company Yeats as strong as the price below which you would passport away from the deal. Justify your drop of a sudden or notch away price. beingness that the Terminal Value is at $72 million, we would ask to sell Yeats to TSE at that opening price. However, in calculating the Discount Cash Flow Value with Net usher in Value at $55 million, this would be the drop dead price we would walk away from the deal.A value between these ranges would be preferred, as the minimum ($55 million) represents the equity value of Yeats and the maximum ($72 million) represents the future value of Yeats. In addition to the price negotiations, we would also negotiate social basis (as suggested by Bill Yeats). This includes for Yeats employees not to be te rminated after the merger and Bill Yeat to remain as head of Yeats with bonuses (five class options to purchase 80,000 shares of TSE stock at 90% of market price at the virtually of acquisition, and an incentive bonus of $50,000 to $200,000 per year).