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It is 2001. Amanda Ling is a business valuation consultant with a degree from Lindenwood University.

It is 2001. Amanda Ling is a business valuation consultant with a degree from Lindenwood University. She has been employed by Hampton Partners (a private equity firm), which is considering the leveraged buyout of children’s clothing retailer William Carson Co. Hampton executives think Carson’s is an excellent investment: over the last five years, it has achieved strong sales growth and has successfully cut costs. While Hampton doesn’t see much more room for improvement in the cost-cutting department, they do forecast the strong sales growth to continue for the next five years. Carson’s also has a strong, experienced management team which Hampton intends to keep in place. To finance the transaction, Hampton plans to borrow $360 million for 10 years at a cost of 10.875%. The rest of the price is to be paid in stock. The deal is expected to close December 31, 2001, and the funds would be dispensed the next day.

Hampton has given Amanda the following information regarding the transaction, presented in Exhibits 1 through 4. Additionally, they project their terminal growth rate of free cash flows to be 2.5%, and the level and cost of debt achieved in 2007 to remain constant going forward. The appropriate tax rate is 38%.

Exhibit 4: Information from Comparable Companies
D/E Beta Cost of Equity
Kohl’s 0.58 1.23 15.57%
Osh Kosh 0.75 1.42 17.28%
Kids R Us 0.43 1.01 13.59%
Average 0.59 1.22 15.48%

a. (9 points) Give two reasons why Carson’s is a good LBO candidate. Give one reason why Carson’s is NOT a good LBO candidate.

b. (40 points) Amanda has performed the APV valuation of Carson’s shown on the next page. Since Amanda went to Lindenwood instead of Webster, she has gotten a few things wrong in the valuation. List her mistakes below and state how each should be corrected. Do not redo the numerical analysis.

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