1. Why do we use free cash flows, instead of profits, when evaluating the value of a company?2. Explain what is the WACC in simple terms, and what its role in valuation3. Based on the SAITO Solar case and the estimate of Mr Suzuki of 1-3% growth rate for the next twenty years, how much would SAITO be valued at? Be reminded that the owners have set a required 10% rate of return.4. In general, describe how to estimate a company's valuation when the free cash flow are uneven the first years, but later stay constant thereafter.5. Refer to the Appendix 3: free cash flow forecast. Assume 9-11% WACC, and a terminal value of 1-3% growth rate. What would be the range of values for Saito Solar?6. Think from a strategic point of view, should Mr. Saito - and partners - sell the firm? Explain why.P/s: Please Help for th case

.IIlT-Mobile \"e 11:05 PM 4 >3 56% El Done Saito Solar - Discounted Cash Flo... THUNDERBIRD scuom or GLDBAL MANAGEMENT T130357 LENA BOOTH FRANK TUZZOLINO SAITo SOLARDISCOUNTED CASH FLOW VALUATION On a late November morning in 2012, a boutique investment bank in Japan approached Mr. Takuya Saito, Founder and CEO ofSaito Solar, about his interest in selling the rm. Even though selling the rm had crossed his mind occasionally in the past, Mr. Saito had never seriously thought about who would be a potential buyer and how much the rm could realisu'cally be sold for. He was excited about the interest shown by the investment bank, yet skeptical about how large the om might be, in light ofthe declining sales in recent years. Nevertheless, he invited his two silent partners, Mr. Kenta Suzuki and Mr. Shinji Yoshida, to gather in his oice to discuss this unsolicited proposal. Saito Solar and the Solar Energy Industry Saito Solar is a privately owned photovoltaic (PV) solar panel manufacturer founded by Mr. Takuya Saito in 2002. Mr. Saito worked as an electrical engineer for Monsanto Electronic Materials Company [MEMCL a siliconwafer company, right after nishing graduate school in the U.S. In 2000, after several years of dismal nancial results, MEMC was acquired by Texas Pacic Group, a private equity rm, for a symbolic dollar plus $150 million of credit lines. It was then that Mr. Saito decided to return to his homeland, Japan. Mr. Saito had always been intrigued by, and was a big believer in, alternative energy while he was in the U.S. He was particularly interested in solar energy and had spent many of his leisure hours studying the various processes ofsolar energy production. He understood how solar cells, electrical devices that are used to generate electricity from sunlight through photovoltaic effect, were connected electrically, usually in a series as a module. Multiple solar cells were then integrated into groups, all arranged on one plane, forming asolar panel. His research also showed that most of the solar panels in the world were made of either monocrystalline or polycrystalline (also called multicrystalline} silicon solar cells, with those made of thin'lm solar cells accounting for only a small fraction of the overall solar market. Mr. Saito believed Japanese residential and commercial properties would use a lot more solar energy if solar panels were durable and cost effective. After months of extensive industry research, he determined that solar panels made of polycrystalline silicon cells would have the most potential in Japan. Polycrystalline silicon costs less to produce compared to monocrystalline because in this process, raw silicon is melted and poured into a square mold, which is then cooled and cut into perfectly square wafers, resulting in less waste. While the eiciency level is slightly lower than monocrystalline silicon, polycrystalline siliconbased solar panels are more cost effec tive and would be very appealing in Japan, especially to residential customers. The thinlm solar panels, while cheap to manufacture, are the least efcient in producing electricity.l They take up four times as much space as the monocrystalline siliconbased panels to produce the same amount of electricity, making it very impractical for Japanese residential customers. Mr. Saito spent the next few months soliciting capital to start his company. As a newcomer to the solar in dustry, he encountered many roadblocls, especially from banks and nance companies. Even though he had saved some money during the 20 years he worked at MEMC, it was not enough to start a solar panel manufacturing ' Mathias Aarre Maehlurn. \"Which Solar Panel Type is Best? Monn- vs. Polycrystalline vs. Thin Film." June 27. 2013. (http;i'i'energyinfn[mative.nrg/best-solar-panel-n'1onocrysta.lline-polycrystalline-thin-lmi') Copyright 2013 Tbunderlzmi School ofGlobal Management. All rights reserved This case was prepared by Professor: Lena Chm: Booth and Frank Tuzzoi'ina for tbepurpose (if-classroom discussion only, and not to indicate either cfm've or ineffective managnenr. This document Is authorized for use only by Edgardo Gnan lEdgardoortan@ynaoo.oom). Copying or posting Is an lnfrlngemern oi copyright. Please contact cus1omerseNloenarvardbusinessong oracc-eeaoaae for additional copies. .IIlTMobile a? 11:06 PM 4 >3 56% E]! Done Saito Solar - Discounted Cash Flo... Exhibit 1. Various Types of Solar Panels Polycrystalline solar panels Monocrystalline solar panels Thin lm solar panels firm, even at a small scale. Finally, through family ties, he was able to convince a couple of his father's wealthy, long-time friends, Mr. Suzuki and Mr. Yoshida, to contribute the remaining needed capital to start Saito Solar. Saito Solar was a niche player serving residential and small commercial customers, with superior customer service as its hallmark. Mr. Saito recruited many of his customers by first educating them on the importance of alternative energy forJapan. and how they could play a role in helping the environment by adopting solar energy for their homes or businesses. Coupled with the exponential growth of the Japanese solar industry during that time. Saito Solar's revenue grew more than eight-fold from 2002-2008. It was able to prosper along with other industry leaders in Japan such as Sharp, Kyocera, Mitsubishi, and others. in 2008, the global nancial crisis hit. Energy prices fell signicantly, bringing down the demand for alter- native energy. including solar power. At the same time, many Chinese solar companies, such as Suntech, Yingli Solar, and Trina Solar, ooded the market with solar panels that were 30-40% cheaper than those made in'iapan.2 Even though the quality ofJapanese solar panels was considered superior, the cost difference was too big in this rapidly commoditized industry for Japanese companies to compete in the world market. Many industry leaders in Japan, such as Sharp and Kyocera, suffered loss ofmarket share. Saito Solar had a hard time competing as well, with its revenue steadily declining and net prot margins declining also, to about 4.2% in 2012 (see Exhibit 2). From 2009-2012, crude oil prices started to creep back up, reaching over US$100 per barrel in parts of 2011 and in the spring of 2012. World demand for solar energy rose rapidly again, boosted also by the feed-in tariffs implemented by many nations around the world.' in Japan, a deadly earthquake hit in 2011, causing explosions and problems at some of the nuclear power plants that were compounded by the ensuing tsunami. z Ahbishek Shah, "Wiil Cheap Chinese Soiar Panels Invade Japan?'I July 17, 2012. (wwwgreenchipstocksmom/articiesl japan-soiarcompanies."2056) \" A feed-in tariff, also caiied advanced renewabie rariif or renewabie energy payment, is a mechanism used to promote investment in renewabie energy technologies. This is often achieved by offering renewable energy producers long-ten'n contracts at an attractive price to ensure they achieve superior return. As for 2010, more than 50 nations have enacted feed in tariff policies. See hrtpz'en.wiltipedia.org/wikilFeedin_tarifffor more details. 2 T5035? This document Is authorized for use only by Edgardo Drtan (Edgardoortanyhaoooom). Copying orpoating Is an infringement ot copyright. Piease oontaet customerservloeG harvardbusiness.org manages-case hr additional copies. Exhibit 2. Saito Solar's Revenue and Net Prot Margin 36,903.00 5.2% scenario 4 - 7 50% Exhibit 2. Saito Solar's Revenue and Net Prot Margin 6,900.00 36,8[11110 E\" 6,7DIJ.DD I) f: 6,603.DD o 6,503.DO % 6,C0.00 E 36,300.00 3 :5,200.00 - 0' $6,103.00 25,000.00 35,900.00 2010 2011 _ Revenue Net Prot Margin At the time of the earthquake, Japan had 54 nuclear reactors and 17 power plants that produced about 30% of Japan's electricity." In addition to the threat from radiation, many areas of Japan were without power. Nearly sixteen thousand people died and theJapanese economy suffered severely, causing damage totaling about US$300 billion. The earthquake and tsunami gave Japan a sense of urgency to look for alternative energy. On June 18, 2012, the Japanese government approved a new feed-in tariff of 42W kWh [about US$0.55kah} for solar energy that would take effect on July 1, 2012. This tariffwas almost twice as large ofthat in Germany, the country with the largest solar energy capacity in the world, and three times of that in China. With this new tariff, Japan was predicted to generate at least US$9.6 billion of new investments in solar installations, according to Bloomberg New Energy Finance forecast.5These investments were expected to generate up to 3.2 GW of additional capacity, about the output of three nuclear plants, and would rankJapan as one of the largest in the world in solar capacity. Valuation of Saito Solar It was early afternoon when the two silent partners, Mr. Suzuki and Mr. Yoshida, arrived at Mr. Saito's office. They were both very excited about the solicitation and wanted to know how much the offer was. Mr. Saito explained that the investment bank revealed nothing unless owners of the firm agreed to open up a conversation about the sale. That was the main reason he wanted to meet with his two partners. Besides guring out if the partners were receptive to the sale of the company, Mr. Saito also wanted to know if they had some idea as to how much they would sell the company for. Mr. owidafr Valuation Mr. Yoshida was especially interested in the sale of the firm because he needed the cash to invest in his son's new venture. He was a retired mechanical engineer who made some of his earlier fortune through a few lucrative real estate deals during the Japanese real estate boom in the late 19805. He had since invested in a few businesses, all as a minority, silent partner, including Saito Solar. He thought that Saito Solar should be worth about S billion. His calculation was simple and straightforward. He argued that the rm was generating about 250 million of net cash flows per year, and he believed these cash flows were likely to continue for the next 20 years. He came out with '5 billion by simply multiplying 250 million by 20. ' \"Japan EarthquakeTsunami Fun Facts.\" CNN Library. September 20. 2013. @11th fwww.cnn.c0m." 2013." 07/ l 7/w0rldf asia[japanearthquake-"rmnami-fast-facts/indexhtmi) 5 Yiyu Liu. \"Sunny Days Ahead for Japan's Solar Market." CHM Daibr. July 2. 2012. (httpdlwww.chinadaiiyxomxnf worldf2012-07/02fc0ntent_l5540864.htm) T130357 3 Thls document Is authorlaed for use only by Edgardo Orten (Edgerdoorten@yheoo.ooml. Copylng orpostlng ls an Infrlngemerrt of oopwlght. Please contact customerservloel? harverdeuelnessorg craoo-eea-oaea Ior oddltlonal ooelee. Mr. Suzuki's Valuation Mr. Suzuki did not agree with the way Mr. Yoshida estimated the rm value. After inheriting a sizable estate from his father 15 years ago, Mr. Suzuki had been working with a nancial advisor and had gained some nancial knowledge. He argued that cash ows in the lture are not worth as much as cash ows today, so they have to be discounted. If rture cash ows were to stay constant for the next 20 years as Mr. Yoshida suggested, the rm would be worth much less than 5 billion after those cash ows are discounted. However, he did not think cash ows of the rm would stay constant. He was condent that the new feed-in tariff passed recently would increase the demand for solar panels, and that would increase the rm's net cash ows. He believed net cash flows should increase by 35% per year over the next 20 years. He just needed to make that calculation after he determined what to use as a discount rate. Mr. Suits? Vlzluation Mr. Saito was glad that Mr. Suzuki understood the discounted cash flow concept and its importance in valuation. He agreed that the rm would get some muchneeded sales boosts in the coming years due to the new feedin tariff that started in July. As the majority owner who oversaw the day-to-day operation of Saito Solar, he had witnessed an increase in sales orders since the new tariff was passed. Unlike Mr. Suzuki, he didn't think the sales growth would be steady over the 20year period. He believed sales growth would be quite substantial in the rst few years when consumers and businesses responded to the change in the new tariff, but it would taper off. He also didn't believe that the rm would stop producing cash flows after 20 years. He argued that the company would be in good hands, and hence should exist for the indenite future. He explained that most companies' discounted cash ow valuations were based on rms producing perpetual cash flows, as there was no reason for a rm's cash flows to disappear after a certain period. In fact, Mr. Saito came to the meeting well prepared. Before the meeting, he asked his nanoe manager, Ms. Yamada, to prepare the 5-year cash ow projections shown in Exhibit 3, with the details prented in Ap pendix 5. The projection had an aggressive sales growth in the near future, with growth slowing in later years. Ms. Yamada, who had since joined the meeting, also suggested that cash flows beyond the 5-year period should be growing at a constant rate of 13%. After some clarications and discussions, the partners were convinced that the projections in Exhibit 3 were reasonable. Exhibit 3. Saito Solar-'5 Actual and Projected Sales and Free Cash Flows 14,000 12,000 ammo i i new 2: 2 I m ' 4K a