LIN Broadcasting was appraised in early 20X9 by three investment bankers to determine the appropriate price on a takeover by AT&T. The three appraisals came in at $105 by Morgan Stanley for AT&T, $155 by Lehman Brothers for LIN Broadcasting, and a compromise valuation by Wasserstein Perella of $127.50. LIN Broadcasting is a fast-growing firm in a fast-growing industry segment. Revenues are expected to grow to 30% a year for the next few years. The firm has never made a profit after taxes, even though it has posted high growth, because it has had high leverage and non-operating expenses. Prior to these charges however, it earned an operating income of $128 million in 20X8. Thus, although the FCFE is negative, the FCFF is positive. Finally, the financial leverage is high but can be expected to decline as the industry stabilises. The risk-free rate is 7.5% and the market risk premium is 5.5%. Given the following background information, compute the value of LIN Broadcasting if there are 51,502,000 shares outstanding and the value of debt outstanding is $1806.60 million? The firm's tax rate is 36%.
The background information on LIN Broadcasting is as follows:
Current Earnings:
EBIT in 20X8 = $128.3m (Revenue = $ 688.6 m) Capital expenditure in 20X8 = $150.5m Depreciation & Amortisation in 20X8 = $125.1m Working capital was about 10% of revenues in 20X8
Inputs for the high-growth period.
Length of the high-growth period = 5 years Expected growth rate in revenues/EBIT = 30% Financing Details:
· Beta during the high growth period = 1.6
· The firm will continue to use debt heavily during this period (Debt Ratio = 60%), at a pre-tax cost of debt of 10%
· Capital expenditure and Depreciation are expected to grow at the same rate as revenues and EBIT
· Working Capital will remain at 10% of revenues during this period
Inputs for the transition period
Length of the transition period = 5 years
Growth rate in EBIT will decline from 30% in year 5 to 5% in year 10 in linear increments Capital expenditure will grow at 8% a year, and depreciation will grow at 12% a year during the transition period
Financing Details:
· Beta will drop to 1.25 for the entire transition period
· The debt ratio during this phase will drop to 50%, and the pre-tax cost of debt will be 9%
Working Capital will remain at 10% of revenues during this period
Inputs for the Stable Growth period
Expected growth rate in revenue and EBIT= 5%
Capital expenditure and depreciation will grow at the same rate as EBIT Beta during the stable growth period = 1.00
The debt ratio during this phase = 40% and the pretax cost of debt will be 8.5% Working Capital will remain at 10% of revenues during this period
