bankruptcy, reorganization and liquidation

1) Vandell’s free cash flow (FCF0) is $2 million per year and is expected to grow at a

constant rate of 5% a year; its beta is 1.4. What is the value of Vandell’s operations?

If Vandell has $10.82 million in debt, what is the current value of Vandell’s stock?

(Hint:Use the corporate valuation model)’

2) estimates that if it acquires Vandell, interest payments will be $1,500,000

per year for 3 years, after which the current target capital structure of 30% debt

will be maintained. Interest in the fourth year will be $1.472 million, after which

interest and the tax shield will grow at 5%. Synergies will cause the free cash flows

to be $2.5 million, $2.9 million, $3.4 million, and $3.57 million in Years 1 through 4,

respectively, after which the free cash flows will grow at a 5% rate. What is the

unlevered value of Vandell, and what is the value of its tax shields? What is the per

share value of Vandell to Hastings Corporation? Assume that Vandell now has

$10.82 million in debt.

3) Marston Marble Corporation is considering a merger with the Conroy Concrete

Company. Conroy is a publicly traded company, and its beta is 1.30. Conroy has

been barely profitable, so it has paid an average of only 20% in taxes during the last several years. In addition, it uses little debt; its target ratio is just 25%, with the cost

of debt 9%.

If the acquisition were made, Marston would operate Conroy as a separate, wholly

owned subsidiary. Marston would pay taxes on a consolidated basis, and the tax rate

would therefore increase to 35%. Marston also would increase the debt capitalization

in the Conroy subsidiary to wd= 40%, for a total of $22.27 million in debt by the

end of Year 4, and pay 9.5% on the debt. Marston’s acquisition department estimates

that Conroy, if acquired, would generate the following free cash flows and interest

expenses (in millions of dollars) in Years 1–5:

Year Free Cash Flows Interest Expense

1 $1.30 $1.2

2 1.50 1.7

3 1.75 2.8

4 2.00 2.1

5 2.12 ?

In Year 5, Conroy’s interest expense would be based on its beginning-of-year (that is,

the end-of-Year-4) debt, and in subsequent years both interest expense and free cash

flows are projected to grow at a rate of 6%.

These cash flows include all acquisition effects. Marston’s cost of equity is 10.5%,

its beta is 1.0, and its cost of debt is 9.5%. The risk-free rate is 6%, and the market

risk premium is 4.5%.

a. What is the value of Conroy’s unlevered operations, and what is the value of

Conroy’s tax shields under the proposed merger and financing arrangements?

b. What is the dollar value of Conroy’s operations? If Conroy has $10 million in

debt outstanding, how much would Marston be willing to pay for Conroy?

4) Spreadsheet Problem( Use Attached spreadsheet to answer)

Start with the partial model in the fileCh22 P05 Build a Model.xlson the textbook’s

Web site. Duchon Industries had the following balance sheet at the time it defaulted

on its interest payments and filed for liquidation under Chapter 7. Sale of the fixed

assets, which were pledged as collateral to the mortgage bondholders, brought in

$900 million, while the current assets were sold for another $401 million. Thus, the

total proceeds from the liquidation sales were $1,300 million. The trustee’s costs

amounted to $1 million; no single worker was due more than $2,000 in wages; and

there were no unfunded pension plan liabilities. Determine the amount available for

distribution to shareholders and all claimants.

Duchon Industries’s Balance Sheets (Millions of Dollars)

Current assets $ 400 Accounts payable $ 50

Net fixed assets 600 Accrued taxes 40

Accrued wages 30

Notes payable 180

Total current liabilities $ 300

First-mortgage bondsa 300

Second-mortgage bondsa 200

Debentures 200

Subordinated debenturesb 100

Common stock 50

Retained earnings (150)

Total assets $1,000 Total claims $1000