ECON/BST 321 Corporate Finance
This is a take home exam and an INDIVIDUAL not a group assignment.
Please answer BOTH questions and submit your answers (spreadsheets and written work) to my email by NO LATER THAN 7 PM ON DECEMBER 11th.
The Case for the exam, TOTTENHAM HOTSPURS PLC. is posted on Moodle.
A: Assume that Tottenham Hotspurs continues to operate in its current stadium and follows its current player acquisition strategy (i.e. no change to its existing business structure). Based on this assumption,
- Create a spreadsheet using the cash flows provided in EXHIBIT 5 of the case. Drawing on your spreadsheet, perform a Discounted Cash Flow (DCF) analysis and, using CAPM, determine the value of the company. Most, but not all, of the data you need for the CAPM formula is in EXHIBIT 1.
- How does this value compare to the stock price of £13.80, the price stated in the case? Is the stock over or under valued? Write a short (one page) summary explaining your findings and conclusion.
B: Assume now that the club decides NOT to build a new stadium, but DOES decide to acquire a new player. Create a NEW spreadsheet and DCF analysis to determine if it makes sense to do so. To create the new spreadsheet, you should use the one from PART A and ADD to it a forecast of the INCREMENTAL revenues and costs from acquiring the new player. Once you have completed this forecast and DCF analysis, you should have a new valuation for the club. Is this valuation greater or less than the valuation you created in PART A? If it’s greater, then acquiring a player adds value and makes sense. If it’s less, then acquiring a player reduces value and doesn’t make sense. Write a short summary explaining your findings.
Hints for Tottenham Hotspur plc. DCF analysis
- To determine the total annual cash flow, you need to include an annual figure for CAPEX in your spreadsheet; the starting year (which is 2007) figure and the assumption for the annual growth rate are both stated in the case. Be careful - the depreciation associated with this CAPEX is already included in Exhibit 5, so, aside from the numbers that are already in the exhibit, you do NOT need to add any more depreciation to your spreadsheet.
- You also have to estimate the annual change in working capital. For this, use a starting year (which is 2008) figure of £-3.89 (yes, NEGATIVE) and increase it each year by the rate of annual revenue growth.
- For your CAPM model, most of the data is provided in Exhibit 1. The exhibit does not include the risk premium. I have, therefore, posted an article on Moodle that lists the risk premiums in 2016 for more than 70 countries including the UK.
- We know from our class discussion that the value of a firm (V) is the sum of the value of its equity (E) and its debt (D), i.e. V = E + D. Your DCF analysis will produce a value for the firm (V). To determine whether the stock is overvalued or undervalued, you need a value for the equity (E), so you’ll need to subtract D from V. Be sure to subtract Net Debt (which is Long-Term Debt minus Cash, both of which can be found in Exhibit 4).
- For beta, you need to use the “unlevered” beta. This is the beta of a company assuming it has no debt. The beta in exhibit 1 is the beta for the whole firm, i.e. it reflects the combined risk of the company’s equity and debt. But, in this instance you are interested the riskiness of the company’s equity, not the riskiness of the entire firm, so you need to adjust its beta. To calculate the unlevered beta, use the formula we will discuss in class on December 2:
bA = (E/V)bE = (1-(D/V))bE
bE is given in Exhibit 1. The debt (D) to enterprise value (V) ratio is in Exhibit 2. So, you can easily calculate the unlevered beta, bA.
- For the forecast of incremental revenues and costs from acquiring a new player, the additional costs are clearly stated in the case. These are operating costs, NOT CAPEX. For the incremental revenues, you need to connect the number of goals that the new player is likely to score with the additional points that the team will earn from these goals and then translate these additional points into new revenues. This is a three step process:
- Step 1: The case tells you how many goals a new player might score in a year. Take this number and assume that for each additional goal, the team will earn an additional 0.68 points. This will tell you how many points a new player might generate in a year.
- Step 2: Exhibit 2 tells you how many points, on average, the club earns a year. Take this number and calculate the % increase in points that a new player will generate (using the number you calculated from Step 1)
- Step 3: The case tells you that for every 1% increase in points the incremental revenue is 1.52. So, you can take the percentage growth rate from Step 2 and apply this factor.
Once you have done this analysis, it’s easy to calculate the incremental revenue. You take the base case revenue per year (from your original spreadsheet) and adjust it for the percentage you get from 3 above. Keep in mind, however, that the new player may not play every game (the case tells you what percentage of games a healthy player normally plays) and that the incremental revenues will be lower if the club keeps the old stadium, which you should assume it does (again, the case tells you how to adjust your forecast for this).