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Problem 1 Phifty Sense is in the music business based in New York. It is looking to acquire White Noise, a recording company based in Seattle.
Problem 1
Phifty Sense is in the music business based in New York. It is looking to acquire White Noise, a recording company based in Seattle. Phifty Sense has a Öxed debt-equity ratio of 2/3, a cost of debt of 6% and a cost of equity of 18%. It estimates that the FCFs of White Noise are expected to be $7 million next year growing at 4% for the foreseeable future. What is the WACC of Phifty Sense? Use your answer to find an estimate of the value of White Noise to Phifty Sense. What are the implicit assumptions underlying this valuation? Find an estimate of the systematic business risk (asset beta) of the music industry. Assume the corporate tax rate is 34%, the market risk-premium is 6% and the risk-free rate is 6%.
Problem 2
After more careful consideration, the CEO of Phifty Sense thinks that the east coast music business has di§erent business risk from the west coast business and so it may not be appropriate to value White Noise using Phifty Senseís own WACC. You have identiÖed a comparable west coast music company for White Noise, the San Francisco based Ungrateful Living. Ungrateful has a Öxed debt to value ratio of 10%, a tax rate of 34%, an equity beta of 1.5 and a debt beta of 0. Using the other information of the previous problem, is the east coast music business more or less risky than the west coast business? Assuming that White Noise will be financed with a debt to equity ratio of 2/3, with D = 0, and will a tax rate of 34%, find a revised estimate of the value of White Noise.
