The owner of a private firm has requested that you estimate the value of the firm so that it can be marketed for sale. The firm creates custom, made-to-order furniture. The firm's most recent results are shown in Appendix A.

Management expects revenues, cost of goods sold, operating expenses, depreciation (and amortization), and capital expenditures to grow 20% annually for the next five years with taxes remaining at 40% for each year. Balance sheet items in the most recent year include $10 million of outstanding, interest-bearing debt and $10 million book value of equity. The outstanding debt is expected to remain constant for this analysis, and management anticipates no changes in working capital. Free cash flows are estimated to grow at 5% after the five year period.

Industry averages for market value of equity are three times book value, for beta are 1.30, and for market debt ratio are 20%. Average market multiple for the industry is 7 times net income, and the Treasury bond rate is assumed to be 7%.

Based on this information and the information covered in Unit 3, prepare a DCF and Market Multiple analysis (in Excel) to help the owner estimate firm value. Please make sure to include your calculations for the following items:

• Annual Free Cash Flows
• Cost of debt
• Cost of equity
• WACC
• Terminal Value
• Firm Value, Debt Value, and Equity Value

Would

the owner prefer the DCF or Market Multiple approach to valuation? Why?

Furniture Company

Income & FCF Analysis

($ in thousands)

Most

Recent

Year

Revenue

$ 20,000

Cost of Goods Sold

15,500

Gross Profit Margin

4,500

Gross Profit Margin %

22.5%

General Operating Expenses

2,000

Depreciation & Amortization

500

Total Operating Expenses

2,500

Interest Expenses

1,000

Income before Taxes

1,000

Taxes

400

Tax Rate

40.0%

Net Income

$ 600

Add: After Tax Interest Expense

$ 600

Less: Capital Expenditures

(1,000)

Add: Depreciation

500

Add: Decrease (Increase) in AR

- - -

Add: Decrease (Increase) in Inv

Add: Increase (Decrease) in AP

Unlevered Free Cash Flows

$ 700