CBS Corporate Finance

Clarkson Lumber Co – Part 2

Valuing a Firm as a Going Concern

Due: October 3rd  on or before 11:30 AM

Instructions: Your group should upload one electronic copy of your Excel solution on

Canvas Canvas (go to “Assignments”, chose the appropriate assignment and click on “submit” on the bar on the right hand side of the screen).  You must upload your solution no later than 10 minutes before the start of the lecture on the day in which they are due. Ensure your solution contains your cluster and each group member’s name. You should submit a solution to all “Assignment Questions” . “Discussion Questions” are designed to provoke thought and will be discussed in class but you do not need to address these in your assignment. Your solution should be formatted and set out so that it is easy to read, clearly show your working, the logic behind your answers, and any assumptions you made in the analysis. This assignment uses the same case text you read for lecture 8 (Clarkson 1).

Keith Clarkson, sole owner and president of the Clarkson Lumber Company, has received a  number  of  informal  inquiries  from  large,  nationally‐recognized  building  materials distributors about purchasing his company. Although, Clarkson relishes operating his own business he would be interested if an attractive offer were received. Unfortunately, Mr. Clarkson is unsure how much his company is worth so he turns to you for guidance.

Value Clarkson Lumber at December 31, 1995 assuming the firm will obtain a credit line at Northrup National Bank sufficiently large to take advantage of discounts on purchases for paying within 10 days of invoice, thus increasing operating profit margins. With higher mark‐ups and continued operating expense controls, Clarkson projects a steady operating profit margin of 6% by 2000 after which he expects the sales growth rate to drop to a fairly steady 7% per year. Margins and investment requirements will also stabilize in relation to sales growth. Make your forecasts using the “Projection Assumptions” in the table below. The discount rate is 12.5%. Note that the forecast ratios already include the benefit of the 2% trade discounts. For simplicity, use a tax rate of 35% throughout the projections, i.e., disregard the tax schedule in note (c) to Exhibit 1. All notes payable on Clarkson’s balance sheet are interest‐bearing liabilities. Make whatever other reasonable assumptions are necessary to complete your analysis and explain the rationale for each.

Assignment Questions

1.   Project free cash flows for the next five years, 1996‐2000 and estimate the residual value at the end of year 5 using the perpetuity with growth formula. To project cash flows beyond 2000, use the 7% sales growth rate and assume all other  FCF components will maintain the same ratios you used for the year of 2000.

2.   Value the entire company. What is Mr. Clarkson’s equity interest worth?

3.   Using your valuation  for Clarkson at the end of 1995, compute the following multiples:

a.   V(Operations)/Sales (based on estimated enterprise value). Compute this as a forward multiple.

b.   V(Operations)/EBIT (based on estimated enterprise value). Compute this as a forward multiple.

c.   In principle, how might you use these multiples to test the reasonableness of your valuation? What other data would you need?

Discussion Questions (No submission needed)

As you are doing the analysis please consider the following questions.

1.   What is the  effect of slower growth on free cash flow? What about increased operating margins?

2.   When will Clarkson start generating a positive free cash flow?

3.   What is the Clarkson Lumber Company worth as a going concern?

Projection Assumptions

Ratio Definitions:

OPM (Operating Profit Margin): EBIT/Sales

AR DOH (Accounts Receivable Days on Hand): AR/ Daily Sales

Inv DOH (Inventory Days on Hand): Inventory/ Daily COGS

NFATO (Net Fixed Asset Turnover): Sales/PPE(net)

AP DOH (Accounts Payable Days on Hand): AP/Daily Purchases