Corporate Finance Case Study

Aldeway

Cash on hand = 200M InvestmentA,B = 100M (with cash on hand)

Favorable (50%) Unfavorable (50%) E (v)

Project A 120M 60M 90M

Project B 101M 101M 101M

a) Before projects (m.v.)

V E 200

Cash on hand 200 D 0

200 200

NPVA = -I0 + E (v)A = -100 +90 = -10 NPVB = -I0 + E (v)B = -100 +101 = 1

With project A (m.v.) With project B (m.v.)

V E V E

Cash on hand 100 Old E 200 Cash on hand 100 Old E 200

E (v)A 90 NPVA -10 E (v)B 101 NPVB 1

D 0 D 0

190 190 201 201

MVAT = MVAE = V – IC = 190 – 200 = -10 (=NPVA) MVAT = MVAE = V – IC = 201 – 200 = 1 (=NPVB)

With project A and B (m.v.)

V E

Cash on hand 0 Old E 200

E (v)A 90 NPVA -10

E (v)B 101 NPVB 1

D 0

191 191

MVAT = MVAE = V – IC = 191 – 200 = -9 (=NPVA + NPVB)

R: The company should undertake project B.

b) InvestmentSubsidiary = 10M Equity = 10% Debt = 90%

Subsidiary when created (m.v.) Parent company when subsidiary was created (m.v.)

V 100 E 10 V E 200

D 90 Cash on hand 190

100 100 Invest in Sub 10 D 0

200 200

Project A is not profitable to be undertaken by the parent company directly but B is. So we need to assess if it is more profitable to invest:

(1) In A through the subsidiary and in B directly or

(2) Just in B through the subsidiary (because A will not be undertaken directly)

(1) Map of payoffs with Project A

Favorable (50%) Unfavorable (50%) E (v)

V 120 60 90

D 90 60 75

E 30 0 15

Subsidiary with project A (m.v.) Parent with A through the subsidiary and B directly (m.v.)

V 90 E 15 V E

D 75 Cash on hand 90 Old E 200

90 90 Invest in Sub 15 MVAE + NPVB 5 + 1

E (v)B 101 D 0

206 206

MVAE = 15 – 10 = 5 MVAT = 206 – 200 = 6

(2) Map of payoffs with Project B

Favorable (50%) Unfavorable (50%) E (v)

V 101 101 101

D 90 90 90

E 11 11 11

Subsidiary with project B (m.v.) Parent with B through the subsidiary (m.v.)

V 101 E 11 V E

D 90 Cash on hand 190 Old E 200

101...