Valuation of Airthread Connections

Weijia Wei

Professor Mazur

3/30/2012

Valuation of Airthread Connections

Valuation of Airthread:

To simplify the valuation, I assume the capital structure and tax rate of Airthread doesn’t change after the acquisition. Thus there is no financial synergies or change in Beta. Also, I would like to use equity residual method by assuming that the cash flow of Airthread solely associate with the equity of company but not the debt it’s using.(page 662)1. Another assumption I would like to make is all the estimations from Ms. Zhang are correct. All my analysis and calculation are based on the prediction provided by the case (in MM).

In order to get a most accrued valuation of Airthread, it becomes very important to choose the right business valuation techniques. As a private company, a market value cannot be applied to Airthread. The lack of information also makes it hard to use P/E approach. Compared to Asset Accumulation approach, Discount Cash Flow (DCF) approach is more appreciate. It takes consideration in future estimates and discounts it by time value of money.

To find the net present value of Airthread, the first thing to find is an appropriate Beta. Assume Airthread’s capital structure will not change; therefore debt/equity ratio will be constant and the same with 2007’s D/E, which is .756(2415.7/3196.2). Thus, Beta of Airthread should be calculate by the D/E and the Industry unlevered Beta, as following (Aswath Damodaran)2

BetaIndustry unleveraged = levered beta/(1+(1-T)(D/EIndustry))

=1/(1+(1-.4)(.468))=.78

Airthread Beta=Bu(1+(1-T)(D/Eairthread))=.78(1+(1-.4)(.756))=1.13

Assume all cash flows are solely belongs to the equity owner (Equity Residual Method), the discount rate should be equal to the cost of equity, instead of WACC, which include debt. Also, the market risk premium (5%) and risk free rate (5.5%-1.25%=4.25%) is given in the case, and then the cost of equity (discount rate) of Airthread can be calculate as following...