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Sir,
I am puzzled as to why interest is not included in the calculation of the cash flows for the MBO of the machinery parts manufacturing business unit?
Also why is it that the estimated value of the cash flows is not discounted if the cash flow is from the end of year 1? Shouldn’t the value be {[(435×1.08)/0.1]x0.909} ?
We never subtract interest in arriving at the net cash flows when we are discounting at the cost of capital. (The calculation of the WACC will have included the cost of debt, and therefore the interest is accounted for in the discounting – to show it as a cash flow as well would be accounting for it twice 🙂 )
The first flow is indeed at the end of the first year, which is one year from now – i.e. time 1.
so the flows are from 1 to infinity, and multiplying by 1/r discounts a perpetuity starting in 1 years time – we do not need to discount for another year (that would only be relevant if the first flow was in 2 years time).Hi John. I didn’t understand the appendix 4: value created for vco.
1)Vco has paid $400m for 600m shares so its share proportion will increase but how is vco equity share proportion increased to 40%?2)50% * 18458. Why 50% is multiplied?
3)why is the value of unsecured bonds taken into account when it has been replaced by 600m shares?
4) why only vco value of equity taken into account and not other shareholders?
nickstar: ‘r’ is whatever interest rate we are discounting at, which in this case is the WACC.
1 Total shares will go up to 1,800 + 600 = 2,400.
VCO’s shares go up to (20% x 1800) + 600 = 960
960/2400 = 40%2 18458 is the value of their 40% holding. They already held 20% and so the extra is 20/40 (or 50%) x 18458
3. It is the amount foregone (i.e. ‘lost’) and so reduces the net gain
4. Because it is looking at the value created for the VCO’s
1 Total shares will go up to 1,800 + 600 = 2,400.
VCO’s shares go up to (20% x 1800) + 600 = 960
960/2400 = 40%2 18458 is the value of their 40% holding. They already held 20% and so the extra is 20/40 (or 50%) x 18458
3. It is the amount foregone (i.e. ‘lost’) and so reduces the net gain
4. Because it is looking at the value created for the VCO’s
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