Frank Spence Case Harvard Case Solution & Analysis

Frank Spence Case Case Study Solution

Valuation

Frank’s business evaluation was performed by using discounted cash flow method. The estimations have been taken from 1995 till 2000 giving us 6 annual periods to work with. Forecasting procedure has been conducted after incorporating sales growth of 3% as assumed by Frank. Furthermore, according to him, the operating income would increase by 18% each year hence, giving us EBIT for each year. Subsequently, the free cash flow for each year has been calculated in the case. Moving forward, Chris had used different rate of return, 12%, 15% and 18%, as he thought 15% WACC might be controversial. Continuing with that, discounted cash flow has been calculated using all the three rate of return. This has been shown in exhibit 1. From the table, it can be seen that discounted free cash flows for 12% return are the highest.

After that, NPV of the three cash flows has been calculated as \$9555, 000 for 12% rate, \$6412, 000 or 15% rate and \$4487, 000 for 18% rate of return. The total debt of the business is \$2939, 000 which is subtracted from the three enterprise values. The subtraction has given us a range for worth of equity which is \$8,187,000 till \$1,787,000. The range can be negotiated in the deal by the buyer and Frank. Exhibit 3 shows the range of equity value.

Recommendations

Frank spencer is looking for the best price to sell of its small distribution company and to enjoy his retirement. In an effort to do so he has used his contact to discuss the issue with Chris Saunders, working in First United. Chris has asked the mergers and acquisition department of his bank to further discuss about mergers and acquisition. While discussing about the valuation process, Chris has asked Frank about the future projections, by using which the future six years forecasting has been completed. After valuation through DCF method, it can be seen that equity valuation for the different WACCs has given us a range from \$8,187,000 till \$1,787,000.

The company’s small size doesn’t allow it to get listed on the stock exchange therefore valuation has to be conducted in a different way. It is recommended that Frank and Chris should have adopted the benchmark evaluation method to compare his prices and valuation with others and hence Frank could’ve sold his product after looking at close competitors.

Exhibits

Exhibit 1

 0 1 2 3 4 5 6 Terminal Value 1994 1995 1996 1997 1998 1999 2000 EBIT (Operating Income) \$4,971 \$4,993 \$5,143 \$5,297 \$5,456 \$5,620 \$5,788 \$5,788 tax \$1,997 \$2,057 \$2,119 \$2,182 \$      2,248 \$      2,315 \$                 2,315 Free Cash Flow \$1,559 \$2,959 \$3,047 \$      3,139 \$3,232 \$3,329 \$3,429 \$                 3,473 Discounted free cash flow (12%) \$        1,559 \$             2,642 \$              2,429 \$      2,234 \$      2,054 \$      1,889 \$      1,737 \$                 1,760 Discounted free cash flow (15%) \$        1,559 \$             2,297 \$              1,837 \$      1,469 \$      1,174 \$         939 \$         751 \$                    761 Discounted free cash flow (18%) \$        1,559 \$             1,947 \$              1,319 \$         894 \$         606 \$         411 \$         278 \$                    282

Exhibit 2

Drug Wholesalers  Publicly Traded Company Analysis
(\$ In Millions)
Rank         Company               State 5/30196
Stock Price
Market Value (A) of Equity Not Debt(B) Enterprise Value (C) LTM
Sales
LTM
Operating Margin (D)
Enterprise Value Multiple: Forward                                  Operating
PIE          Sales   EBITDA    Income
Market Value      Multiple Net             Book
Income          Value
1 McKesson Corp. (MCK)(E) CA \$43.63 \$1,916.40 \$485.60 \$2.402.0 \$13,189.00 1.9% 14.40 0.18 x 7.37 x 9.58 x 14.41 x 1.83 x
2 Bergen Brunswig Corp. (BBC) CA 22.580 882.4 406.2 1,288.6 7,871.0 1.6% 13.80 0.16 9.25 10.47 14.01 1.87
3 Cardinal Health Inc. (CAH) OH 46.000 1,926.0 325.4 2,251.4 5.790.0 2.4% 22.55 0.39 13.68 16.10 55.03 3.85
4 FoxMeyer Health Corp. (FOX) TX 18.125 308.5 320.3 628.8 5,177.0 1.1% 9.80 0.12 5.92 10.68 7.34 0.61
5 AmeriSource Health Corp. (ASH PA 22.250 300.4 620.3 920.7 4.726.0 2.0% NM 0.19 8.71 9.73 NM NM
6 Brindle Western Industries (BIND IN 15.500 167.9 166.2 334.1 4,231.0 0.8% 11.57 0.08 7.95 10.28 11.19 0.93
7 Owens & Minor Inc. HIdg. (OMI)( VA 13.000 399.2 323.3 722.5 2.752.0 2.0% 15.85 0.26 10.47 12.90 10.54 1.59
8 D & K Wholesale Drug Inc. (DKW MO 6.125 16.5 17.3 33.8 320.0 1.2% 12.01 0.11 6.91 8.90 16.54 2.36
9 Moore Medical Corp. (MMD) CT 11.375 32.6 23.7 56.2 277.0 2.7% 9.25 0.20 6.25 7.50 10.84 1.41
High 2.7% 22.55 0.39 13.68 16.10 55.03 3.85
Mean 1.7% 13.65 0.19 8.50 10.68 17.49 1.81
Median 1.9% 12.91 0.18 7.95 10.28 12.60 1.71
 Low
0.8% 9.25 0.08 5.92 7.50 7.34 0.61

Exhibit 3

 12% 15% 18% NPV of Cash Flow \$   9,555.33 \$        6,412.64 \$         4,487.63 NPV of Terminal Value \$   1,571.01 \$           661.47 \$            238.80 Enterprise Value \$ 11,126.34 \$        7,074.12 \$         4,726.43 Debt \$   2,939.00 \$        2,939.00 \$         2,939.00 Equity Value \$   8,187.34 \$        4,135.12 \$         1,787.43

Exhibit 4

 cost of debt 8.2% cost of equity 17.6% debt \$             2,939.00 equity 4552 tax 40% wd 0.39 We 0.61 WACC 12.62%