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MAN704 - Relative Valuation Exercises

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76 views2 pages

MAN704 - Relative Valuation Exercises

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3945305
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MAN704 – Advanced Financial Management

Relative Valuation
Class Exercises

Question 1 - Using Price/FCFE Multiple, Value/FCFF Multiple

Ekapa Corporation, a producer of small aircrafts, reported net income of R120 million in 2023, after
paying interest expenses of R19 million. The depreciation allowance in 2023 was R77 million, while
capital expenditures amounted to R80 million in the same year. Working capital increased by R15
million in 2023. (The tax rate is 30%.) Ekapa finances 10% of its net capital investment and working
capital needs using debt. The free cash flows to equity are expected to grow 10% a year from 2024
to 2028, and 6% a year after that. The equity of the company had a beta of 0.80, and this is expected
to remain unchanged. The treasury bond rate is 7% and the market risk premium is 5.5%.

a) Estimate the Price/FCFE ratio for the firm.


b) Ekapa has R251 million in debt outstanding at the end of 2023. What is the Value/FCFF
ratio? The Value/EBITDA ratio? Why are they different from the Price/FCFE ratio?

Question 2 - P/BV Ratio for an Industry

You are analysing the price/book value ratios for firms in the trucking industry, relative to returns on
equity and required rates of return. The treasury bond rate is 7% and the market risk premium is
5.5%. The data on the companies is provided below:

Company P/BV ROE Beta


Builders Transport 2.00 11.5% 1.00
Carolina Freight 0.60 5.5% 1.20
Consolidated Freight 2.60 12.0% 1.15
J.B. Hunt 2.50 14.5% 1.00
M.S. Carriers 2.50 12.5% 1.15
Roadway Services 3.00 14.0% 1.15
Ryder System 2.25 13.0% 1.05
Xtra Corporation 2.80 16.5% 1.10

a) Compute the average P/BV ratio, return on equity, and beta for the industry.
b) Based upon these averages, are stocks in the industry under or overvalued relative to book
values?

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Question 3 - Price/Sales Ratios and Brand Name Value

McDonald's Corporation, with fast food restaurants throughout the U.S, Canada and overseas,
reported a net profit of $1.085 billion on sales of $7.425 billion in 1993. The sales/book value ratio in
1993 was approximately 1.2, and the dividend payout ratio was 20%. The book value per share was
$19 in 1993. The firm is expected to maintain high growth for ten years, after which the growth is
expected to drop to 6%, and the dividend payout ratio is expected to increase to 65%. The beta of
the stock is 1.05. (The treasury bond rate is 7% and the market risk premium is 5.5%.)

In contrast, Wendy's, a less well-known fast-food operator, reported a net profit of $90 million on
revenues of $1475 million in 1993. It maintained a sales/book value ratio of 2.0 in 1993, and paid out
32% of its earnings as dividends. The book value per share was $7 in 1993. The high growth is
expected to last for ten years, after which time it is expected to drop to 6%. The dividend payout
ratio is expected to increase to 65%. The beta of this stock is also 1.05.

a) Estimate the price/sales ratio for McDonald's and Wendy's based upon their characteristics.
b) Assuming the McDonald's sales/book value ratio remains unchanged, estimate the
price/sales ratio for McDonald's if its profit margin drops to that of Wendy's.
c) Assuming that the differences in profit margins between McDonald's and Wendy's are
entirely attributable to differences in brand name value, estimate the value of the
McDonald's brand name (relative to Wendy's).

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