Suppose you company is considering purchasing a firm called "Cleanco". The management

of Cleanco is asking for $20 million for the acquisition. You expect the cash-flow from

Cleanco to be highly uncertain. In particular, cash-flow depends on many uncertain pa-

rameters such as Sales growth, Gross margin, SGA expenses, Variations in working capital,

Litigation liability, and Terminal value of Cleanco. The current data provided to you by

the Cleanco management is as follows:

Annual sales revenue: $40 million.

Annual cost of good sold: $28 million.

SG&A annual costs: $10 million.

Working capital: $4 million.

Tax rate: 34%

You have decided that the appropriate discount rate the acquisition is 12%. You are going

to project cash flows out seven years and then use future growth rate from that point to

assess a terminal value. Below is your assessment of uncertainty involving the factors that

will eventually impact your cash-flow from this acquisition:

1. Sales Growth:

During Years 1-2 there is a 70% chance that growth will be between 3% and

6%, and a 30% chance that growth will be between 0% and 3%.

During Year 3 there is a 40% chance that growth will be between 3% and 6%,

and a 60% chance that growth will be between -3% and 3%.

During Years 4-7 there is a 10% chance that growth will be between 6% and

12%. There is a 40% chance that growth will be between 3% and 6%. There is

a 50% chance that growth will be between -3% and 3%.

2.Gross Margin:

If sales decline, there is a 60% chance sales margin will be between 29% and

32%; there is a 30% chance that sales margin will be between 32% and 34%;

there is a 10% chance that sales margin will be between 34% and 36%.

If sales growth is positive, there is a 15% chance sales margin will be between

29% and 32%; there is a 50% chance that sales margin will be between 32% and

34%; there is a 35% chance that sales margin will be between 34% and 36%.

3. SG&A Expenses:

There is a 30% chance that the change in SG&A expenses will range from -2%

to 1%.

There is a 50% chance that the change in SG&A expenses will range from 1%

to 4%.

There is a 20% chance that the change in SG&A expenses will range from 4%

to 7%.

4.Working Capital:

If sales growth is positive the changes in working capital will equal 15% of sales

growth.

If sales growth is negative there is a 40% chance that the change in working

capital will equal 15% of sales growth and a 60% chance that the change in

working capital will be between 10%-15% of the sales growth.

5. Litigation Liability:

During Year 2 there is a 5% chance of a liability cost that will range between 2

and 3 million dollars.

If there is no liability cost in Year 2, then during Year 3 there is a 5% chance of

a liability cost that will range between 2 and 3 million dollars. If Year 2 liability

cost is greater than 0, there can be no Year 3 liability cost.

6.Terminal Value:

After Year 7 there is a 15% chance the growth rate of free cash flow will be

between 0% and 3%; a 60% chance that the growth rate of free cash flow will

be between 3% and 6%; a 25% chance that the growth rate in cash-flow will be

between 6% and 9%.

Question: Develop a detailed Discounted Cash-flow Analysis spread sheet incorporating all these un-

certainties and recommend whether this acquisition will create value for your shareholder?

Answer rating: 100% (QA)

Here is a detailed DCF analysis spreadsheet incorporating the uncertainties provided Cleanco Acquisi... View the full answer