V3 A7 Q 2 5

Note: Questions 1 - 5 relate to the same "mega" problem. For convenience we have included the entire set of information in every question. For purposes of the questions that follow, assume that changes in working capital are negligible and capex and depreciation are of the same magnitude and therefore cancel each other. This is the assumption we made in most of the videos to focus on valuation effects of borrowing and taxes and to figure out the key differences between alternative valuation methods.

You are an analyst at Goldman Sachs tasked with valuing a company, Incline, Inc., a private company. You estimate that the earnings of Incline (or EBIT) will be $100,000 per year for the foreseeable future. Your due diligence and analysis of comparable firms in the same industry have revealed that the beta asset in the business of Incline, Inc. is 1.50. The risk free rate is 2.50% and the expected market risk premium (the premium that the market is expected to earn over the risk free rate) is 5.00%. The balance sheet of Incline, Inc. shows that it has $250,000 of debt that it plans to maintain for the foreseeable future and the interest on the debt is 5%. The corporate tax rate is 35%, interest payments on debt are tax deductible and that it is reasonable to assume that the riskiness of the tax shield is the same as the debt. You estimate that the chances that Incline, Inc. will go bankrupt in the future are negligible. Given the above information you choose to use the Adjusted Present Value (APV) method to value the company and your estimate of the value is:

Information given in the question
EBIT	100,000 p.a
Ba	1.5
Rf	2.5%
Rp	5%
Debt	250,000
Rd	5%
Tax rate	35%

Answers from question above
Ra	10%
Value unlevered (using APV)	650,000
Tax shield (using APV)	87,500
Value levered	737,500

Solutions and explanations to be given by Chegg:

Q2. (follow on from question above)

Your boss is not aware of the APV method and therefore requests you to redo the analysis using the Enterprise Value Method, which uses WACC as the discount rate. She requests you to use the information at your disposal, including your analysis using the APV method above, to calculate the WACC for Incline, Inc., which turns out to be ???

Q3. (follow on from question above)

Using the WACC calculated above, and all the information about Incline, Inc. you now feel

confident that you can use the Enterprise Value method to calculate the value of Incline, Inc. Your estimate of the value of Incline, Inc. using the WACC method turns out to be???

Q4.

You are an analyst at Goldman Sachs tasked with valuing a company, Incline, Inc., a private company. You estimate that the earnings of Incline (or EBIT) will be $100,000 per year for the foreseeable future. Your due diligence and analysis of comparable firms in the same industry have revealed that the beta asset in the business of Incline, Inc. is 1.50. The risk free rate is 2.50% and the expected

market risk premium (the premium that the market is expected to earn over the risk free rate) is 5.00%. The balance sheet of Incline, Inc. shows that it has $250,000 of debt that it plans to maintain for the foreseeable future and the interest on the debt is 5%. The corporate tax rate is 35%, interest payments on debt are tax deductible and that it is reasonable to assume that the riskiness of

the tax shield is the same as the debt. You estimate that the chances that Incline, Inc. will go bankrupt in the future are negligible. Your boss is meeting with representatives of the shareholders of Incline, Inc., and requests you to share some more analysis and estimates with her. She specifically requests that you estimate the value of equity of the firm and share all the information that you generate through the analysis: cash flow to equity, beta of equity, the return on equity and price per share. You are keen on showing your dexterity with all valuation methods and spend some time to come up with the detailed analysis requested by your boss. You notice that Incline, Inc. has 100,000 shares outstanding. Your estimate of the total annual cash flow to all equity holders comes to???

Q5. (Follow on from question above)

Your estimate of the beta equity of Incline, Inc. is:

a) 1.63

b) 1.83

c) 1.72

d) 0.93