Basic Financial Concepts and Pinkerton
Executive Summary. Wathen is attempting to value the proposed acquisition of Pinkerton in an effort to determine whether bids of $85 million to $100 million is value enhancing for CPP’s shareholders. Additionally, Wathen must choose between two financing options: (1) raising $100 Million via a $75 million debt structure at 11.5% interest rate together with a $25 million equity investment for a 45% stake in the combined company and (2) a $100 million debt facility at 13.5% interest rate. General Assumption. We assumed that Wackenhut is comparable to Pinkerton, and therefore that Wackenhut’s asset beta reflects that of Pinkerton. Additionally, we assumed that Pinkerton’s bond rating is A. As such, we assumed a debt service ratio for an A-rated company to be approximately 6.0x, which is a value consistent for relatively small A-rated companies. We also assumed that CPP and Pinkerton grow at a 5% perpetuity growth rate and have 34% marginal tax rates. Two cases were examined, an expected case and pessimistic case (see exhibit 2 and 8 for details of assumptions provided in the case). Also, we assumed there were only two financing options available for CPP. Valuation and Financing of Pinkerton. Based upon Wackenhut and the current market value of Debt and Equity of Pinkerton, we estimated the cost of capital of Pinkerton to be 14.25% (Calculation in exhibit 1). We evaluated the source of value from Pinkerton from three sources: (1) the value of the operation of Pinkerton itself, including its continuing value, (2) the incremental value to CPP from improvements and synergies, and (3) the value from tax shields. We evaluated two cases to find the range of possible values for Pinkerton. Additionally, in order to evaluate the appropriate financing alternative, we considered: (1) which option would provide the maximum value to existing shareholders and (2) whether free cash flow after debt service was positive.
Expected Case Valuation: According to
Expected Case Valuation: According to