Practice
Question 1 (30 points): Acquisition of Dialog
The following are excerpts from an article from Bloomberg dated Monday Feb 8, 2021
Dialog Agrees to $6 Billion Takeover by Renesas Electronics
Renesas Electronics Corp. of Japan has agreed to acquire Apple Inc. supplier Dialog Semiconductor Plc,
the latest U.K.-based chipmaker being sold to Asian investors.
Dialog accepted the all-cash offer of about $5.9 billion, the companies said in statements Monday.
Dialog shares rose as much as 18% in early trading in London on Monday. Renesas shares dropped as
much as 6.9% in Tokyo.
The offer price is a 20% premium to Dialog’s Friday closing price.
The company had been working with advisers and was holding discussions with STMicroelectronics NV
before the Franco-Italian company was outbid, Bloomberg News reported on Sunday.
“We had multiple interested parties in the acquisition of Dialog,” Jalal Bagherli, chief executive officer
of Dialog, said in a call with investors on Monday. Renesas was chosen for its culture, reputation,
technology and market reach, he said.
Stephane Houri, analyst at Oddo, said he doesn’t expect to see a counteroffer though the bid may
need to be sweetened. The 20% premium, while acceptable given historic levels, may not represent
the full value.
The volume of deals involving semiconductor companies more than doubled last year to $144 billion,
according to data compiled by Bloomberg. Nvidia Corp. agreed in September to buy SoftBank Group
Corp.’s chip division Arm Ltd. for $40 billion, taking control of some of the most widely used chip
technology in the industry’s largest-ever deal.
Any deal could draw scrutiny from U.K. regulators as countries grow more protective of strategic
industries such as semiconductors. Nvidia’s deal for Arm is set to be investigated by the country’s
competition watchdog. The Competition and Markets Authority has said it will apply greater scrutiny
to strategic tech deals, regardless of size.
The U.K. government is also planning to introduce new rules that would allow officials to look at past
takeovers and mergers where concerns have been raised.
Renesas, which had a market value of $20.5 billion as of Friday’s close, is one of the largest suppliers
of semiconductors used in cars.
Like Dialog, Renesas is also a supplier to Apple.
Practice
Based on the information in the excerpt from the article above, answer the following questions.
(4 points)
(a) Craig Miniter The last paragraph states “Any deal could draw scrutiny from U.K. regulators as
countries grow more protective of strategic industries such as semiconductors.” Do investors
think that the Renesas/Dialog deal is likely to be blocked by UK regulators? What i s the
probability the deal will be blocked according to investors?
(3 points)
(b) Stef Pria: Could the fact that both Renesas and Dialog are suppliers to Apple be a source of
synergies?
(3 points)
(c) Sean Abbey: Do investors think that Renesas is overpaying for Dialog?
(6 points)
(d) Nick Consonery: Does the market believe there are synergies between Renesas and Dialog?
Calculate the synergies estimated by the market.
Practice
(3 points)
(e) Ray Whitty: Would (Renesas) investors agree with the suggestion by Stephane Houri that the
bid needs to be sweetened?
In addition to excerpts from the Bloomberg article above, the following additional information is
shared with you:
“Shares of Dialog -- headquartered near London but listed in Frankfurt -- have risen around 25%
since the start of the year (2021), boosted by […] takeover speculation.”
(4 points)
(f) Jeremy Soares Would this information affect your view on the synergies in the deal as
calculated under (d)?
(3 points)
(g) Kam Bellamy: Would this information affect your answer to question (c)?
(4 points)
(h) Adriana Coleska: Between the close of the market on Friday 5th and Monday 8th, shares of
STMicroelectronics (ticker: STM) rose by 3.5% in New York. What can you infer about STM
investors?
Practice
Question 2 (36 points): Cost of Capital for Walmart (Ticker symbol: WMT).
The following information was taken from Yahoo Finance on 2/19/2021 (amounts in billions of dollars
are denoted by B)
Additional Balance sheet and income statement info 1/31/2021 (from Yahoo) in billions of dollars:
Total Debt 69.5
Cash 17.7
Net Debt 51.7
Common Stock Equity 81.3
EBIT 23.0
The board of WMT is discussing cost of capital calculations. In particular, given the recent rise in the
share price they wish to analyze the impact of an increase in the amount of debt on WMT’s weighted
average cost of capital (WACC). WMT currently makes the following assumptions in its cost of capital
calculations.
1. The CAPM can be used for estimating both the cost of equity and cost of debt.
2. The yield-to-maturity on long-term WMT bonds (rated AA) is 2.45%
3. The yield-to-maturity on recently issues US Treasury bonds of comparable maturity is 2.15%
4. The expected market risk premium (rp) = 5%
5. The current debt beta for WMT = 0
6. The tax rate is 25%.
Practice
The questions below were raised by different board members.
(3 points)
(a) Lane Greer: For the purpose of the WACC calculation, what is WMT’s current capital structure,
stated as: % of Equity and % of Debt (net of cash)?
(5 points)
(b) Michael Seltzer: What is WMT’s long-term WACC, assuming the company is currently at its
target capital structure?
(3 points)
(c) Brendan O’Riordan: What is WMT’s asset beta?
Nathan Tribble thinks that under the current borrowing rates and credit rating outlook, WMT could
modify its target capital structure and increase its net debt to 25%.
(5 points)
(d) Kate Fuentes: What is the cost of levered equity at the higher leverage of 25% debt?
(3 points)
(e) Tri Hiremath: What is the new WACC of WMT at the higher leverage?
Practice
(4 points)
(f) Joe Kollo: Can somebody explain the change in WACC when leverage was increased to 25%?
That is, explain qualitatively the difference between your answers to parts (b) and (e) above.
(5 points)
(g) Meshach Cleary: I agree that the systematic risk of the debt of WMT is low, but I feel that the
assumption of a zero debt beta is too conservative. What would the asset beta of WMT be if
we assumed a (constant) debt beta of 0.1? And how would this affect the calculation of the
equity beta at the higher leverage?
(4 points)
(h) Ari Tarpinian: What is WMT’s ROIC (after-tax return on invested capital) for the last 4 quarters
(ttm), where invested capital includes equity and net debt (total debt less cash)? Assume that
the book values of debt, equity, and cash have not changed appreciably over the last four
quarters.
(4 points)
(i) Ella Archibald: In comparing the risk of Walmart to the risk of Target (one of its competitors)
which would you expect to be more similar: their equity betas, or their asset betas?
Practice
Question 3 (26 points): BYND Valuation model
Note: Information provided in one question part below may be relevant for another.
The board of BYND is discussing the valuation model provided for Problem Set #3. Based on the
assumptions in the model, the fundamental value per share is about $90. The peak ROIC assumed is
just below 45% (in 2025) and the long-term ROIC is just above 20 % (from 2039 onward). Sales is
expected to rise from about 650 million in 2019 to about 6 billion in 2039. Sales growth is very high
initially and levels off at 2% by 2039. The assumed weighted average cost of capital (WACC) is 6.4%.
Given that BYND has very little debt in its capital structure, the WACC of 6.4% suggests the cost of
equity is also close to 6.4%. The tax rate (federal + state) is assumed to be 25%.
The questions below are raised by different board members.
(3 points)
(a) Alex Sawabini: Our share price is now close to $150, much higher than $90. Qualitatively,
what must happen to the assumed trends for ROIC and/or sales growth to justify a share
price of $150.
(3 points)
(b) Kirsten Cooper: What does an assumed long-term ROIC of 20% imply about competition
levels after 2039?
(4 points)
(c) JP Madarasz: Suppose we adjust the assumed long-term ROIC to be at a level that implies
high competition by 2039. Will the fundamental value increase if we adjust the terminal
growth rate upward?
Practice
(4 points)
(d) Chris Lenoci: Shaky Jake, our part-time consultant, says the ROIC describes how much return
our management earns on the capital invested in the firm (Book value of debt + equity –
cash). What is the internal rate of return (IRR) an investor can expect to earn if they buy our
shares at the current price (assume the stock market is efficient)? What is the expected net
present value (NPV) of such an investment?
(4 points)
(e) Tosin Omole: The free cash flow (FCF) projected for 2020 is a negative number, about - 96
million. What does a negative FCF mean? Does it mean we are expected to perform badly in
2020? How is it consistent with a positive tax-adjusted Earnings before Interest and Tax
(EBIT) of about 34 million projected for 2020?
(4 points)
(f) Brian Heslin: The model estimates Enterprise value as of 2019 to be 5,288 million. It then
subtracts Net Debt (= total debt – cash) to get Equity value. But Net Debt in this case is
negative = -245 million. What does negative Net Debt mean? Is it a problem? If we subtract a
negative Net Debt from Enterprise Value we get an Equity value that is higher than
Enterprise value. How can Equity value be higher than Enterprise value?
(4 points)
(g) Jing Tu Shaky Jake says that Enterprise value can also be obtained by adding the present
value of expected future value creation to the 2019 book value of Invested Capital, which is
$138.5 million. How much value creation is expected to be delivered in 2020?
Practice
Question 4 (18 points): Multiples valuation of Merck
In preparation for the exam some students are reviewing the multiples valuation of Merck (MRK)
discussed in class.
The following questions come up in the discussion. Please give a brief answer and explanation for
each.
(3 points)
(a) Niki Marin: Does the multiple over or undervalue MRK relative to its traded price in the
market?
(3 points)
(b) Mikah Owen: Is it possible to use enterprise value relative to net income when calculating an
earnings multiple?
Practice
(3 points)
(c) Fareen Sunderji: Should we use enterprise value or equity value if we use the # of patents as
the value driver?
(3 points)
(d) Mark Weisenborn: Glaxo-Smith-Kline (GSK) lies below the multiples line. Could this be because
GSK is less risky than its peers?
(3 points)
(e) Michael Ozuna: Eli Lilly (LLY) plots above the multiples line. Could it be because LLY is relatively
more profitable than its peers?
(3 points)
(f) Sam Hufton: Bristol Myers (BMY) plots below the multiples line. Could it be because BMY has
lower growth, relative to its peers?
Practice
Question 5 (19 points): Capital structure of Hertz
Information provided in one question part below may be relevant for another.
(3 points)
(a) Gabe Ramirez: Hertz announced a rights issue on June 12, 2019, stating their intent to use the
proceeds to buy down debt. They offered each share the right to purchase 0.6888285 shares
at a price of $12.95, which was a 20% discount from the closing price on June 12 th ($16.19).
Investors appeared to view the announcement as good news because the share price
responded positively. As a shareholder, should I normally choose to participate? Participation
means I either exercise my rights and buy shares at $12.95 or sell my rights in the market. Why
or why not?
(3 points)
(b) Matt Hicks: In early June 2019, just before the rights issue, was Hertz over or under leveraged?
That is, did it have too much or too little debt, relative to the optimum level that maximizes
firm value by balancing the costs and benefits of debt relative to equity? Any evidence above
that sheds light on this question? Explain briefly.
(5 points)
(c) Georgia Hirsty: On June 20, 2019, the rights are separated from the shares and start trading.
The closing share price fell from $18.67 on June 19 th to $16.22 on the 20th. The rights offering
is fully subscribed, and the number of shares increases from 84.12 million to 142.02 million.
The additional 57.90 million shares purchased by holders of rights provide net proceeds of
$12.90 per share. Even though the holder of the right pays $12.95 for each share, Hertz
collects a net amount of $12.90 because 5 cents are lost in transactions costs. Is there an
approximate expected relation between share prices on the 19 th and 20th? Why or why not?
Practice
(4 points)
(d) Cecilia Shutters: On June 20, 2019, the closing price for rights is $2.45. Is there an approximate
connection between the prices for shares and rights on June 20th? Why or why not?
(4 points)
(e) Christina Gunnell: I was under the impression, based on what I read in the popular financial
media, that an increase in the number of shares is bad for shareholders as it causes dilution.
That is, shares lose value because there are now more shares. Is there any evidence above that
sheds light on this hypothesis? Explain briefly.
Practice
Question 6 (21 points): Miscellaneous topics.
Evaluate the following statements, provided by financial experts. Indicate whether they are True, False,
or Uncertain, and explain briefly your reasoning.
(3 points)
(a) Chris Calby: “When a firm increases its leverage, the overall business risk will go up because
it becomes more likely the firm needs to file for bankruptcy”
(3 points)
(b) Kevin Christensen: “When a firm increases its leverage both the debt and equity of the firm
become more risky.”
(3 points)
(c) Sheila Grandio: “If my company acquires LaKiesha Tomlin’s company, I know my profit
margins will increase. This is a sure sign of a good acquisition.”
Practice
(3 points)
(d) Dan Neubelt: “When a firm experiences debt overhang, investors of new capital into the firm
should require a senior position in the capital structure. Attempts by the firm to raise capital
from junior investors are likely to fail, or not raise significant proceeds.”
(3 points)
(e) Ifem Ezekwe: “The only reason that equity issuances are on average costly to firms is because
the fees paid to investment bankers for assistance in the capital raising process are much
higher for equity than other forms of capital (debt, convertible debt, internal equity, etc.)”
(3 points)
(f) Dhiren Patel: “From the perspective of all investors combined, a useful performance metric
to evaluate a CEO is to take after tax EBIT (NOPAT) as a percentage of the sum of the market
values of debt and equity”
(3 points)
(g) Navid Tofigh: “A firm with three equal sized divisions has an overall asset beta of 0.5. If the
first two divisions have asset betas of 0.6 and 0.9, the unlevered cost of equity for the third
division must be equal to the risk free rate”