This case concerns the John M. Case Company, which at one time was the leading producer of business calendars in the United States. The company was founded by the grandfather of John M. Case in 1920 and was inherited in 1951. The company had experienced profitable operations every year since 1932, and held approximately a 60-65% market share by 1984. Sales had been increasing annually at about a 7% compound rate, and the return on average invested capital was about 20%. The cost structure of the company was 100% equity, owned solely by Mr. Case. The capital budget was the leftover earnings generated from internal operations minus the amount Mr. Case wished to withdrawal as income (dividends) for the …show more content…
This can be reinvested into the company to open up opportunities for more low-cost and higher-margin products and services.
Analysis of Key Issues
Can the purchase price be met and still turn a profit reasonable for risk? Based on the future cash flow forecast, a discounted cash flow valuation of the company can be performed and compared to the asking price. Provided with the debt/total capital ratios, total capital as well as equity can be figured. All numbers are represented in Figure 1. Knowing these numbers provides easy plug-ins for the WACC calculation, for example year in year one the debt ratio is 89%, so the equity ratio must be 11%. We are also told the venture capital firm will expect a 20-25% return on its funds, and with a yearly debt security rate of 9% that leaves an expected return (and cost of capital) on its equity collateral of 16%. The cost of debt is a weighted average of the three debt instruments along with their corresponding rates of return. Due to changes in the cost structure with every year using less debt and more equity, the WACC changes annually. This is also shown in Figure 1. Discounting each of the forecasted cash flows at its corresponding WACC gives the present value of that cash flow, and the terminal value is computed using the smallest projected growth rate of 5% which is without any changes in the business model. Adding the cash flows and the terminal value and subtracting the asking price of