1. What is your interpretation of the investor reaction to the announcement that Berkshire Hathaway (BRK) would purchase Precision Castparts Corporation (PCP) for a total cost of $37.2 billion? Specifically, what does the decline in BRK stock price imply about the intrinsic value of PCP?
2. Based on the multiples for comparable companies (Exhibit 11), what is the range of possible values for PCP? What concerns do you have about this method of valuation? (For some insights regarding the method of comparables, refer to Chapter 15 in the Ivo Welch text.)
3. * Build Exhibit 12 to calculate the weighted average cost of capital (WACC) for both BRK and PCP. Follow the prompts to locate the inputs in the case and perform the calculations. (This exercise provides a preview of the Best Practices discussed in Case 10, of which a quick read might be helpful). On the surface, which cost of capital is the appropriate hurdle rate to evaluate BRKs investment in PCP, i.e. should it be the acquirers WACC or the acquired firms WACC? Why?
4. * Build Exhibit 13 to forecast the free cash flows from operations a.k.a. free cash flow to the firm for three years ahead (2016 through 2018). A terminal value for 2018 is also required to represent an estimate of the cash flows which are expected after the forecast period. The amount of the investment in 2015 and the total cash flows for 2016 2018 will yield an Internal Rate of Return (IRR) and/or a Net Present Value (NPV) for evaluation. Based on this forecast and DCF analysis of the deal, did Buffett pay too much for PCP or did he score a great deal?
Exhibit 11 Warren E. Baffett, 2015 Valuation of PCP Based on Multiples for Comparable Firms Name MV Equity Enterprise Value Book V alue CY '14 EBITDA EBIT Enterprise Value as Multiple of: Revenue EBITDA EBIT MV of Equity as Multiple of: Net Income Book Value Rev Net Income Alcoa $2.041 $23.906 $1.307 6.51x 7,86% 10.60 11 56% LIST $13.637 $1332 $9.460 SI 304 $1,627 $23,164 $1,517 $12.924 $3,193 $2.220 $10.399 $709 $3,1R2 $2.998 $1.326 $3.556 5193 $2.290 $283 ThyssenKrupp Allegheny Technologies Carpenter Technology 541,304 $2.185 $131 SI 314 $106 $212 6.68 16 36 45.05% $210 0.97% 1.16% 0.31 0.76x 1.02% 1.29% 1,88% 2.97% 0.60% 1.23% (53) $4,223 S2.173 1 1.28 5.81% 30.09x 10.47% NM 12.25 $133 Median $3.1935 508 1.29% $1.004 55.572 $2.598 $1,683 54.223 S14 SR) $382 $1,341 $212 $790 $133 $491 0.97% 0.84 6.51% 742x 10,60% 14.51x 14.31x 20 ORE Mean 58,603 1.61 $10,929 $10,005 S2,927 $2,602 $1.530 Precision Castparts Implied Value - Median Implied Value - Mean 59,705 58.404 $19,055 $21.718 S27,581 537.755 $21,894 $30.722 $14,098 $17.596 The calculation of the implied values for PCP based on the median of the peer firms' multiples takes the product of the median value of the multiples of comparable firms (line 8) and multiplies it times the relevant base (revenue, EBITDA, EBIT, net income, or book value) for PCP. The same method is used for the cakulation of the implied value based on the average or mean of the peer firms multiples (line 9). For instance, the implied value based on the median multiple of EBIT (837,755 million) is derived by multiplying 14.51 (the mean EBIT multiple for the comparable firms) times $2.602 million (the EBIT of PCP). Data source: Factset Weighted Average Cost of Capital (WACC) Estimates for PCP and BRK Components PCP view BRK view Source Calculation Cost of Equity Market Return Risk-free rate Market Risk Premium Beta Cost of equity capital Footnote 6 and 15 Footnote 15 Calculate Footnote 15 Calculate MRP - Market return-Risk-free rate Cost of equity capital - Risk-free rate. (Beta MRP) Cost of Debt AA-rated corporate bond yield Marginal tat rate After-tax cost of debt Footnote 15 Footnote 15 Calculate After-tax cost of debt Pre-tax cost of debt (1-Marginal tax rate) Component Weights (In millions of dollars) Long-term debt as of 8/10/15 MV of equity (pre-announce) Enterprise value (pre-announce) NA NA Footnote 1 Footnote to Exhibit 9 Calculate Enterprise value (EV) value of long-term debt + MV of equity NA % Debt % Equity Calculate for PCP. given in Footnote 15 for BRK Calculate for PCP. given in Footnote 15 for BRK % Debt-Long-term debt Total EV % Equity = MV of equity/Total EV Weighted average cost of capital Calculate WACC = (%Debt After-tax cost of debt)+ (% Equity cost of equity) Miscellaneous information for reality check in millions) W shares outstanding Market price 8/7/15 Market price 8/10/15 BRK bid price Equity value of deal Total EV of deal Exhibit 10 Footnote 5 Footnote 5 Paragraph 1 Paragraph 1 Paragraph 1 E 3 Anal Expension of the Cash Www E. Balen 2005 RC C atedral Stufe Opg ht Consolad o m 141 Sit p lant 102 1. Shunder Londole Other longer " Munched Mah . Men 12 recading March 2014 Supplemental Depreciation d amortion Networking at DISCOUNTED CASH FLOW ANALYSIS FOTwith Race Til Growth 2006-2008 in Hv i d 2016-2018 dan capital sa les 2014 ("NOPAT) Ne l plus Capital less trees in Net Working Capi 5323 25 FC them FreeCam s Tilvali WACC -51% Timulya WMC-IT TV - rek Talawi MATES Brew - FOF Open Final NPV Hatha To Cali WACC - er vel TC-TCFT m odul NPV o Bekhe way UNIV Exhibit 11 Warren E. Baffett, 2015 Valuation of PCP Based on Multiples for Comparable Firms Name MV Equity Enterprise Value Book V alue CY '14 EBITDA EBIT Enterprise Value as Multiple of: Revenue EBITDA EBIT MV of Equity as Multiple of: Net Income Book Value Rev Net Income Alcoa $2.041 $23.906 $1.307 6.51x 7,86% 10.60 11 56% LIST $13.637 $1332 $9.460 SI 304 $1,627 $23,164 $1,517 $12.924 $3,193 $2.220 $10.399 $709 $3,1R2 $2.998 $1.326 $3.556 5193 $2.290 $283 ThyssenKrupp Allegheny Technologies Carpenter Technology 541,304 $2.185 $131 SI 314 $106 $212 6.68 16 36 45.05% $210 0.97% 1.16% 0.31 0.76x 1.02% 1.29% 1,88% 2.97% 0.60% 1.23% (53) $4,223 S2.173 1 1.28 5.81% 30.09x 10.47% NM 12.25 $133 Median $3.1935 508 1.29% $1.004 55.572 $2.598 $1,683 54.223 S14 SR) $382 $1,341 $212 $790 $133 $491 0.97% 0.84 6.51% 742x 10,60% 14.51x 14.31x 20 ORE Mean 58,603 1.61 $10,929 $10,005 S2,927 $2,602 $1.530 Precision Castparts Implied Value - Median Implied Value - Mean 59,705 58.404 $19,055 $21.718 S27,581 537.755 $21,894 $30.722 $14,098 $17.596 The calculation of the implied values for PCP based on the median of the peer firms' multiples takes the product of the median value of the multiples of comparable firms (line 8) and multiplies it times the relevant base (revenue, EBITDA, EBIT, net income, or book value) for PCP. The same method is used for the cakulation of the implied value based on the average or mean of the peer firms multiples (line 9). For instance, the implied value based on the median multiple of EBIT (837,755 million) is derived by multiplying 14.51 (the mean EBIT multiple for the comparable firms) times $2.602 million (the EBIT of PCP). Data source: Factset Weighted Average Cost of Capital (WACC) Estimates for PCP and BRK Components PCP view BRK view Source Calculation Cost of Equity Market Return Risk-free rate Market Risk Premium Beta Cost of equity capital Footnote 6 and 15 Footnote 15 Calculate Footnote 15 Calculate MRP - Market return-Risk-free rate Cost of equity capital - Risk-free rate. (Beta MRP) Cost of Debt AA-rated corporate bond yield Marginal tat rate After-tax cost of debt Footnote 15 Footnote 15 Calculate After-tax cost of debt Pre-tax cost of debt (1-Marginal tax rate) Component Weights (In millions of dollars) Long-term debt as of 8/10/15 MV of equity (pre-announce) Enterprise value (pre-announce) NA NA Footnote 1 Footnote to Exhibit 9 Calculate Enterprise value (EV) value of long-term debt + MV of equity NA % Debt % Equity Calculate for PCP. given in Footnote 15 for BRK Calculate for PCP. given in Footnote 15 for BRK % Debt-Long-term debt Total EV % Equity = MV of equity/Total EV Weighted average cost of capital Calculate WACC = (%Debt After-tax cost of debt)+ (% Equity cost of equity) Miscellaneous information for reality check in millions) W shares outstanding Market price 8/7/15 Market price 8/10/15 BRK bid price Equity value of deal Total EV of deal Exhibit 10 Footnote 5 Footnote 5 Paragraph 1 Paragraph 1 Paragraph 1 E 3 Anal Expension of the Cash Www E. Balen 2005 RC C atedral Stufe Opg ht Consolad o m 141 Sit p lant 102 1. Shunder Londole Other longer " Munched Mah . Men 12 recading March 2014 Supplemental Depreciation d amortion Networking at DISCOUNTED CASH FLOW ANALYSIS FOTwith Race Til Growth 2006-2008 in Hv i d 2016-2018 dan capital sa les 2014 ("NOPAT) Ne l plus Capital less trees in Net Working Capi 5323 25 FC them FreeCam s Tilvali WACC -51% Timulya WMC-IT TV - rek Talawi MATES Brew - FOF Open Final NPV Hatha To Cali WACC - er vel TC-TCFT m odul NPV o Bekhe way UNIV
