Sampa Video,Inc

The Capital Structure

Submitted For

Prof Dr Abhilash S. Nair

Submitted By
Anil kumar K J Ashwin Shankar Habeebu Rahman.T.S Makesh.A Rukmani Umanath Sanjay Bhatia ePGP-03-098 ePGP-03-107 ePGP-03-118 ePGP-03-128 eMEP-10-058 ePGP-03-162

i|Page

Case Study # 2 : Financial Management II

CONTENTS

Executive Summary1 Problem Statement.1 Solution1 Summary.2

ii | P a g e

Comments of Prof Dr. Abhilash S. Nair

iii | P a g e

Exe

ive S mm ry
   T   S      2 " 9

. Est lish d i , S p Vid o w pidly withi Boston t ito y nd w s in position to co p t with igger players in Video Cassette ental Ind stry. In arch , the co pany wants to expand its siness to ho e delivery of ovies.


. With new project in place, the co pany expects to grow @ % perpet ity.
    

. To eet the pfront expendit re for the new project, the co pany has estimated the requirement of $ .5mn y Dec to launch the service y an .
 

Problem S a eme
4. The a. To find out the debt capacity of firm for following two options: i. Fixed amount of debt till perpetuity. ii. The variable amount of debt to eep the Debt to Firm Value constant. b. The impact of financing decisions on firms value.


anagement has following issues to resolve:-

Solution
Calculatin Value of irm when finance wholly by equity 5. Assuming that the operation of Sampa Video is same as that of Kramer.com and Cityretreive.com, the asset beta of Sampa Video is taken as same as asset beta given at Exhibit . . Since the firm is wholly financed by equity, the equity beta of Sampa Video is taken as same its asset beta. The expected return (ke) is calculated as
  $ # !

ke = f +


kt isk Premium* beta

ke = 5+ .5*7.2 = 5.8%

7. Value of Firm, assuming that firm is wholly financed by equity, is obtained by discounting the CF by cost of equity i.e. 5.8%. PV i m i $1228.49m ( ef: Case Study_Sampa.xlsx).
3 1 0 7'1' ' 36 0) '6 5

8. V l

l v

i m (V U) =$ 2728.49m

9. Assumption Debt is for perpetuity and the firm takes debt of 25% of its requirement Therefore, market value of debt D = $ 75 mn
I H PFIF F RE HG FE D A

.V l L v i m(V L) = V l corporate tax rate given as 4 %

I Q PFIF F HG FE D

l v

i m (V U)+ C*

where D( kt Value of debt) and tC is

1 P

V l

L v

i m(V L) =2728.49 + .4*375 =$2878.49 m

Calculatin Value of irm when finance by

@ 8

IXED Debt for perpetuity

1 0 0)

( '&%

I Q PFIF

HG FE D

% over five years and then @ % for

CB

 

Calculatin Value of irm when finance by Variable Debt with CONSTANT D/V Ratio
` Y X

. Assumption D/V = 25% or D/E= /3

b a

D/E ratio= /3 Therefore Project equity Beta(

E
a

) = Asset Beta + (asset Beta-debt beta)*D/E .5+( .25)*0.33 = .917 = 18.8% .8%
a a a

Cost of Equity = 5+1.917*7.2 Cost of Debt =

d

WACC = 0.75*18.8 + 0.25*0.6*6.8 = 15.12% Discounting the cash flow @15.12% we get value of firm as $2946.39m .
e

D= .25*1500=$375mn
x y w x u w vrur r ts rq p

V l

L v

i m(V L) = C @15.12% +( C* *k )/(1+ k ) =2946.39+(0.4*375*0.068)/(1.068) =$2955.94 mn

Summary
Options Debt ixe @25%of $1500 mn

Case 1 Case 2 Case 3 Case 4

375 -

375 -

375

2 Page
W

Variable D/V=25%

Variable D/V=25%(a juste for iles-Ezzell A justment)

($ mn)

1500 1125 1125 1125

2728.49 2878.49 2946.39 2955.41

h g

13. The value of irm after takin

f

iles- Ezzell A justment into account

Equity($ mn)

Value of irm

Project debt Beta(

= .25, Project equity Beta(

aa a

2.

iven
E

) =?? , Project Asset Beta(

= .5