Net Present Value and Free Cash Flow

1081 words 5 pages
1. Given the proposed financing plan, describe your approach (qualitatively) to value AirThread. Should Ms. Zhang use WACC, APV or some combination thereof? Explain. (2 points) * From the statement of AirThread case, we know that American Cable Communication want to raise capital by Leveraged Buyout (LBO) approach. This means ACC will finance money though equity and debt to buy AirThread and pay the debt by the cash flows or assets of AirThread. * In another word, it’s a highly levered transaction using a fixed WACC discount rate; however the leverage is changing in fact. * If we want to use WACC method, one assumption must be met: this program will not change the debt-equity ratio of AirThread. Under LBO approach, it’s …show more content…

Rev in2007

Interest Tax Shields
The process of computing Interest tax shields form 2008 to 2012 is shown as below:

Chart 4 * We calculate the annual interest expenses from 2008 to 2012 and then we can get the tax shields for each year. * From Exhibit 6, we know AirThread used a predetermined debt level. It didn’t set a constant interest coverage ratio. So we choose the debt cost of capital(interest rate=5.5%) to discount its interest tax shields because its interest tax shields holds different risk with the whole acquisition project’s cash flow. * At last, we figure out the present value of tax shields form 2008 to 2012 by using the 5.5% interest rate. The present value of interest tax shield is 284.78.

4. Develop an estimate of the long-term growth rate that should be used to estimate AirThread’s terminal value. (2 points)
We use the Gordon Growth Model to estimate the long-term growth rate.
Growth rate = reinvestment rate × rate of return on investment * Chart 5

Chart 2

Chart 5

Chart 2

Reinvestment rate
=Capital expenditures +Investments in working capital-DepreciationNet Operating Profit After Taxes


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