You have been approached by valuation advice by the owner of CalMex Inc, a private restaurant chain that is planning on going public in the near future. You are provided with the following information on the firm: • CalMex is expected to generate $5 million in after-tax operating income on revenues of $100 million next year. The book value of capital invested in the firm is $50 million and after-tax operating income is expected to grow 4% a year in perpetuity. • There are significant inefficiencies in the way the restaurant is run, entirely attributable to the owner’s management style. If these inefficiencies are removed CalMex could generate $ 6.5 million in after-tax operating income next year on the same revenues, though expected growth is unlikely to be affected. • The unlevered beta of publicly traded restaurants is 1.25, but the average correlation of the sector with the market is only 0.40. The treasury bond rate is 5% and the market risk premium is 4%. • The firm will be all equity financed.   A. Calculate the Cost of equity of CalMex at the IPO   B. Estimate the value of the firm with existing management for a public offering.

Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
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You have been approached by valuation advice by the owner of CalMex Inc, a private restaurant chain that is planning on going public in the near future. You are provided with the following information on the firm:

• CalMex is expected to generate $5 million in after-tax operating income on revenues of $100 million next year. The book value of capital invested in the firm is $50 million and after-tax operating income is expected to grow 4% a year in perpetuity.

• There are significant inefficiencies in the way the restaurant is run, entirely attributable to the owner’s management style. If these inefficiencies are removed CalMex could generate $ 6.5 million in after-tax operating income next year on the same revenues, though expected growth is unlikely to be affected.

• The unlevered beta of publicly traded restaurants is 1.25, but the average correlation of the sector with the market is only 0.40. The treasury bond rate is 5% and the market risk premium is 4%.

• The firm will be all equity financed.

 

A. Calculate the Cost of equity of CalMex at the IPO

 

B. Estimate the value of the firm with existing management for a public offering.

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