busn 5000 week 7 hw

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Webster University *

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5000

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Finance

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Feb 20, 2024

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BUSN 5000 Homework 7 Please open this document in Microsoft Word and respond directly in this document without modification of the text in bold. This way the answer will be in the same place and in the same format for every student. You will submit this Word file in Canvas. If you have any trouble, reach out to your instructor in a timely manner. Question 1 – McDonalds is considering purchasing its (hypothetical) rival, Crusty Burger. McDonalds analysts believe the following stream of earnings (profit) is a reasonable estimate. Determine the maximum price McDonalds should pay for Crusty Burger based on the value of earnings alone. You may use whatever discount rate you choose but prepare to justify this choice in the following question. You must show all your work. 10-Year Projected Earnings for Crusty Burger Year 1 $300 Million Year 2 $310 Million Year 3 $320 Million Year 4 $330 Million Year 5 $340 Million Year 6 $350 Million Year 7 $360 Million Year 8 $370 Million Year 9 $380 Million Year 10 $390 Million Provide the appropriate calculation and solution immediately below Answer: To determine the maximum price McDonald's should pay for Crusty Burger based on the value of earnings alone, I am using the concept of discounted cash flows (DCF) to calculate the present value of the projected earnings. According to (Girardin, 2022), Discounted cash flow (DCF) valuation is a type of financial model that determines whether an investment is worthwhile based on future cash flows. A DCF model is based on the idea that a company’s value is determined by how well the company can generate cash flows for investors in the future.  The present value represents the current worth of future earnings, taking into account the time value of money. The present value is calculated using a discount rate of 10%, which is a commonly used discount rate for valuing investments in similar industries. To calculate the Present Value, I used the excel tool and its function fx (PV) to calculate the present value of an investment: the total amount that a series of future payments is worth now.
BUSN 5000 Homework 7 In the function section, the rate is 10%, Nper is the specific year, and Fv is the future value specified in the question. For example, the Pv for Year 1 is (272.73), which is calculated as follows: For year one, the rate is 0.10 (10%), the Nper is 1, and the Fv is 300. The choice of a 10% discount rate in the analysis was based to make a reasonable assumption for the required rate of return or discount rate for McDonald's. Here's why I used 10% discount rate: 1. Industry Standard : - 10% discount rate is a commonly used benchmark in finance and investment analysis. It is often considered a reasonable rate to apply when evaluating investment opportunities in various industries, including the fast-food industry to which McDonald's belongs. This rate represents the expected return that investors could earn on alternative investments with similar levels of risk. 2. Risk Consideration : - McDonald's, being a large and established company, is likely to have a lower level of risk compared to smaller or riskier ventures. A 10% discount rate accounts for the low level of risk associated with established, publicly traded companies like McDonald's. 3. Stability : - McDonald's is a well-established company with a history of stable and predictable earnings. A 10% discount rate reflects the expectation that the company can continue to generate a consistent return on investment in line with its historical performance. 10-Year Projected Earnings for Crusty
BUSN 5000 Homework 7 Burger Year Earning Discount % PV Year 1 300 10% (NPR272.73) Year 2 310 10% (NPR256.20) Year 3 320 10% (NPR240.42) Year 4 330 10% (NPR225.39) Year 5 340 10% (NPR211.11) Year 6 350 10% (NPR197.57) Year 7 360 10% (NPR184.74) Year 8 370 10% (NPR172.61) Year 9 380 10% (NPR161.16) Year 10 390 10% (NPR150.36) Total (NPR2,072.28 ) Next, to calculate the total present value from the sum up of the present values of each year's earnings: Total Present Value = $272.73 Million + $256.20 Million + $240.42 Million + $225.39 Million + $211.11 Million + $197.57 Million + $184.74 Million + $172.61 Million + $150.36 Million= $2072.28 Million In Conclusion, based on the projected earnings, the maximum price that McDonald's should pay for Crusty Burger is $2072.28 Million. Question 2 – Provide an executive summary justifying a maximum purchase price. Be sure to justify your choice of discount rate in your summary. Do not quote directly from any source including ChatGPT. Rely on your own reasoning. Limit 300 words Answer: McDonald's is considering the acquisition of its hypothetical rival, Crusty Burger, and needs to determine the maximum purchase price based on the projected earnings of Crusty Burger. The analysis employs the Discounted Cash Flow (DCF) method, which calculates the present value of future earnings, considering a discount rate of 10%. The total maximum price that McDonald’s should pay for Crust Burger is $2072.28 million through which the McDonalds will earn the total amount of $3450 in 10 years. The choice of a 10% discount rate is based on several factors. Firstly, it reflects the opportunity cost of investing in Crusty Burger compared to other investment opportunities available to McDonald's. Secondly, it considers the risk associated with the acquisition. A higher discount rate would account for higher risk, but since Crusty Burger is a hypothetical rival, I assume a moderate level of risk.
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BUSN 5000 Homework 7 1. Industry Standard : A 10% discount rate is a commonly used benchmark in finance and investment analysis. It is often considered a reasonable rate to apply when evaluating investment opportunities in various industries, including the fast-food industry to which McDonald's belongs. This rate represents the expected return that investors could earn on alternative investments with similar levels of risk. 2. Risk Consideration : The discount rate should reflect the level of risk associated with the investment. McDonald's, being a large and established company, is likely to have a lower level of risk compared to smaller or riskier ventures. A 10% discount rate accounts for the moderate level of risk typically associated with established, publicly traded companies like McDonald's. 3. Stability : McDonald's is a well-established brand with a history of stable and predictable earnings. A 10% discount rate reflects the expectation that the company can continue to generate a consistent return on investment in line with its historical performance. In conclusion, the maximum purchase price of $2072.28 Million is justified based on the present value of projected earnings, assuming the accuracy of the projections and a moderate level of risk. The choice of a 10% discount rate reflects the opportunity cost, risk, and time value of money. This valuation provides a starting point for negotiations and other factors such as market conditions, brand value potential growth opportunities that may impact the final purchase price.
BUSN 5000 Homework 7 REFERENCE Girardin, M. (2022, September 8). Discounted Cash Flow (DCF) Valuation: The Basics . Forage. https://www.theforage.com/blog/skills/dcf-valuation#:~:text=Discounted%20cash %20flow%20(DCF)%20valuation%20is%20a%20type%20of%20financial