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Hello!
I hope I could get some help with the above question.
I am struggling to understand why in the calculation of the value attributable to Cigno Co’s shareholders from the acquisition of Anatra Co we used the FCF to the firm method rather than FCFTE. In my course notes, it says that FCF to the firm gives the value attributable to both debtholders and shareholders.
However, the requirement is ‘(i) Estimates the value attributable to Cigno Co’s shareholders from the acquisition of Anatra Co before taking into account the cash benefits of potential tax savings and redundancies, and then after taking these into account.’
And because I used the FCFTE method in my calculation I also used the Ke as my discount factor calculated by regearing Antara’s asset beta (Ve and Vd taken from the SoFP) and using CAPM.
I also assumed that the interest would grow at the same rate as the sales revenue (as the examiner has often stated a similar assumption in other questions, therefore, I thought it would be sensible).
Would my answer be accepted or did I misunderstand the requirement? I am a non-native English speaker so it may well be the case…
Thank you so much in advance!
You would get some marks for what you have done, but you certainly would not get full marks for several reasons.
Although the question does not specify that you should use free cash flow method, the question does have a section headed “estimating the combine company’s WACC” which does suggest that you need to calculate it in the answer and if we have the WACC then it seems sensible to use it to discount the free cash flows to the firm.
Also, there is no logic in assuming that interest grows at the same rate as the sales revenue (and I don’t remember any other questions that have assumed that). Interest will only change if there is a change in the level of borrowing. We don’t know what the level of borrowing will be in $’s because although we know the ratio of debt to equity we don’t know the total value until after doing the calculations.
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