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Case Study #2 - Common Sources and Forms of Financing (Chapter 7) Terence Breezeway, the CEO of Prairie Home Stores, wondered what retirement would be
Case Study #2 - Common Sources and Forms of Financing (Chapter 7) Terence Breezeway, the CEO of Prairie Home Stores, wondered what retirement would be like. It was almost 20 years to the day since his uncle Jacob Breezeway, Prairie Home's founder, had asked him to take responsibility for managing the company. Now it was time to spend more time riding and fishing on the old Lazy Beta Ranch. Under Mr. Breezeway's leadership Prairie Home had grown slowly but steadily and was solidly profitable. ( Table 7.8 shows earnings, dividends, and book asset values for the past 5 years.) Most of the company's supermarkets had been modernized and its brand name was well known. Financial data for Prairie Home 5tores. 2016-2020 is millions) Natas: t. Fialie Home Stores has 400,000 commonisayes 2. The compary's policy is to pey cath thidendt equa to 10% of thart-of-yent bock walue Mr. Breezeway was proud of this record, although he wished that Prairie Home could have grown more rapidly. He had passed up several opportunities to build new stores in adjacent counties. Prairie Home was still just a family company. Its common stock was distributed among 15 grandchildren and nephews of Jacob Breezeway, most of whom had come to depend on generous regular dividends. The commitment to high-dividend payout to had reduced the earnings available for reinvestment and thereby constrained growth. Mr. Breezeway believed the time had come to take Prairie Home public. Once its shares were traded in the public market, the Breezeway descendants who needed (or just wanted) more cash to spend could sell off part of their holdings. Others with more interest in the business could hold on to their shares and be rewarded by higher future earnings and stock prices. But if Prairie Home did go public, what should its shares sell for? Mr. Breezeway worried that shares would be sold, either by Breezeway family members or by the company itself, at too low a price. One relative was about to accept a private offer for $200, the current book value per share, but Mr. Breezeway had intervened and convinced the would-be seller to Wait. Prairie Home's value did not just depend on its current book value or earnings, but on its future prospects, which were good. One financial projection (shown in the top panel of 4 Table 7.9) called for growth in earnings of over 100% by 2027. Unfortunately this plan would require reinvestment of all Prairie Home's earnings from 2021 to 2024. After that the company could resume its normal dividend payout and growth rate. Mr. Breezeway believed this plan was feasible. Nertes Page245 Both pone a assume eaminga equal to 15 t of atartofyear book value. This prodtabity rase is conietant one-third teitwethed He was determined to step aside for the next generation of top management. But before retiring he had to decide whether to recommend that Prairie Home Stores "go public"-and before that decision, he had to know what the company was worth. The next morning he rode to work thoughtfully. He left his horse at the south corral and ambled down the dusty street to Mike Gordon's Saloon, where Francine Firewater, the company's CFO, was having her usual steak-and-beans breakfast. He asked Ms. Firewater to prepare a formal report to Prairie Home shareholders, valuing the company on the assumption that its shares were publicly traded. Ms. Firewater asked two questions immediately: First, what should she assume about investment and growth? Mr. Breezeway suggested two valuations: one assuming more rapid expansion (as in the top panel of (0) Table 7.9) and another just projecting past growth (as in the bottom panel). Second, what rate of return should she use? Mr. Breezeway said that 15%, Prairie Home's usual return on book equity. sounded right to him, but he referred her to an article in. The Journal of Finance indicating that investors in rural supermarket chains, with risks similar to Prairie Home Stores, expected to earn about 11\% on average. Case Study #2 - Common Sources and Forms of Financing (Chapter 7) Terence Breezeway, the CEO of Prairie Home Stores, wondered what retirement would be like. It was almost 20 years to the day since his uncle Jacob Breezeway, Prairie Home's founder, had asked him to take responsibility for managing the company. Now it was time to spend more time riding and fishing on the old Lazy Beta Ranch. Under Mr. Breezeway's leadership Prairie Home had grown slowly but steadily and was solidly profitable. ( Table 7.8 shows earnings, dividends, and book asset values for the past 5 years.) Most of the company's supermarkets had been modernized and its brand name was well known. Financial data for Prairie Home 5tores. 2016-2020 is millions) Natas: t. Fialie Home Stores has 400,000 commonisayes 2. The compary's policy is to pey cath thidendt equa to 10% of thart-of-yent bock walue Mr. Breezeway was proud of this record, although he wished that Prairie Home could have grown more rapidly. He had passed up several opportunities to build new stores in adjacent counties. Prairie Home was still just a family company. Its common stock was distributed among 15 grandchildren and nephews of Jacob Breezeway, most of whom had come to depend on generous regular dividends. The commitment to high-dividend payout to had reduced the earnings available for reinvestment and thereby constrained growth. Mr. Breezeway believed the time had come to take Prairie Home public. Once its shares were traded in the public market, the Breezeway descendants who needed (or just wanted) more cash to spend could sell off part of their holdings. Others with more interest in the business could hold on to their shares and be rewarded by higher future earnings and stock prices. But if Prairie Home did go public, what should its shares sell for? Mr. Breezeway worried that shares would be sold, either by Breezeway family members or by the company itself, at too low a price. One relative was about to accept a private offer for $200, the current book value per share, but Mr. Breezeway had intervened and convinced the would-be seller to Wait. Prairie Home's value did not just depend on its current book value or earnings, but on its future prospects, which were good. One financial projection (shown in the top panel of 4 Table 7.9) called for growth in earnings of over 100% by 2027. Unfortunately this plan would require reinvestment of all Prairie Home's earnings from 2021 to 2024. After that the company could resume its normal dividend payout and growth rate. Mr. Breezeway believed this plan was feasible. Nertes Page245 Both pone a assume eaminga equal to 15 t of atartofyear book value. This prodtabity rase is conietant one-third teitwethed He was determined to step aside for the next generation of top management. But before retiring he had to decide whether to recommend that Prairie Home Stores "go public"-and before that decision, he had to know what the company was worth. The next morning he rode to work thoughtfully. He left his horse at the south corral and ambled down the dusty street to Mike Gordon's Saloon, where Francine Firewater, the company's CFO, was having her usual steak-and-beans breakfast. He asked Ms. Firewater to prepare a formal report to Prairie Home shareholders, valuing the company on the assumption that its shares were publicly traded. Ms. Firewater asked two questions immediately: First, what should she assume about investment and growth? Mr. Breezeway suggested two valuations: one assuming more rapid expansion (as in the top panel of (0) Table 7.9) and another just projecting past growth (as in the bottom panel). Second, what rate of return should she use? Mr. Breezeway said that 15%, Prairie Home's usual return on book equity. sounded right to him, but he referred her to an article in. The Journal of Finance indicating that investors in rural supermarket chains, with risks similar to Prairie Home Stores, expected to earn about 11\% on average
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