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COMPANY CASE INTRO

A H P C A P I T A L S T R U C T U R E


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[INTRODUCTION] [ASSUMPTIONS] [RECOMMENDATIONS]

AHPs Current Business,

Culture & GrowthOne of the most common business platitudes is that a corporations

primary mission is to make money for its stockholders ... At AmericanHome, these ideas are a dogmaticway of life.

4

LINES OF BUSINESS:RX DRUGS

OTC DRUGS

FOOD

HOUSEHOLD


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4


OTC DRUGS

FOOD

HOUSEHOLD5

$ HUNDRED:MINIMUM EXPENDITURE

WHERE CEO APPROVALREQUIRED


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4


OTC DRUGS

FOOD

HOUSEHOLD5

$ HUNDRED:MINIMUM EXPENDITURE

WHERE CEO APPROVALREQUIRED

11 2

% AVG GROWTHRATE FROM 1973-1981


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AHPs Current Conservative

Capital Structure1 9 8 0 B A L A N C E S H E E T

TOTAL DEBT

$13.9 MM


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TOTAL DEBT

$13.9 MM

TOTAL DEBT/TOTAL CAPITAL .9%


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TOTAL DEBT

$13.9 MM


INTEREST COVERAGE RATIO 436.6x


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TOTAL DEBT

$13.9 MM



* W A R N E R - L A M B E RT S I N T E R E S T C O V E R AT E

R AT I O I S 5 . 0 x , W I T H B O N D S R A T E D A A A / A A .


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TOTAL DEBT

$13.9 MM



EVALUATE IMPACT OF 30% , 50% , AND70% DEBT OF TOTAL CAPI TAL

* W A R N E R - L A M B E RT S I N T E R E S T C O V E R AT E

R AT I O I S 5 . 0 x , W I T H B O N D S R AT E D A A A / A A .


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APV Calculations Given

Different Capital Structures

BASE CASE NPV {found FCF through growing perpetuityRaderived from unlevering Re


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BASE CASE NPV

+ INTEREST TAX SHIELD

{found FCF through growing perpetuityRaderived from unlevering Re

{

foundimplied tax rate2 different assumptions of debt


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BASE CASE NPV


+ COSTS OF FNCL DISTRESS


{


{estimated to be ~ 20%of firm value


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BASE CASE NPV




{



A D J U S T E D P R E S E N T VA L U E


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BASE CASE NPV




{



A D J U S T E D P R E S E N T VA L U E


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ASSUMPTIONS MADE



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We assumed the sales growthrate, and thus the FCF firm

growth rate would be consistentfrom the previous 9-year period.

_ From these assumptions, wedeveloped various Ra.

_ From a normal distrib, the P

(FCF


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Assumption 1:

High Growth Rates ~ 8.8%-11.2%We assumed the sales growthrate, and thus the FCF firm

growth rate would be consistentfrom the previous 9-year period.

- From these assumptions, wedeveloped various Ra.

- From a normal distrib, the P

(FCF


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Assumption 2:

2 Interpretations of Debt

1

D E B T S TAY S C O N S TA N T given amount of debt stays stable throughoutthe years as 30-70% of BV81leverage:

interest tax shield = D x T*


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Assumption 2:

2 Interpretations of Debt

1



2

TA R G E T L E V E R A G E R AT I O calculated debt to market value ratio in 1981 &maintained this target leverage ratio:

interest tax shield = using waccme


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2



Assumption 2:2 Interpretations of Debt

1



DEBT CONSTANT

CAPITAL STRUCTURE

Growth Rate

376.1 626.8 877.6

5%

96 161 225

7%

96 161 225

9%

96 161 225

11%

96 161 225

13%

96 161 225

15%

96 161 225

17%

96 161 225


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1



Assumption 2:2 Interpretations of Debt

DEBT CONSTANT

CAPITAL STRUCTURE

Growth Rate

376.1 626.8 877.6

5%

208.70 359.59 521.12

7%

216.90 373.96 542.32

9%

225.27 388.64 564.02

11%

233.81 403.66 586.22

13%

242.53 418.99 608.92

15%

251.43 434.65 632.14

17%

260.51 450.64 655.86

2




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Assumption 3:Minimal Impact of Other Effects

AGENCY

CONFL ICTS

risk-shifting = 0stable cash flows, shareholders dont choose riskierNPV projects{


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AGENCY

CONFL ICTS

risk-shifting = 0stable cash flows, shareholders dont choose riskierNPV projects

manager risk aversion = 0corporate culture already risk-averse butcompany still posts strong returns{


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AGENCY

CONFL ICTS


manager risk aversion = 0corporate culture already risk-averse butcompany still posts strong returns

FCF problems = 0/+managerial philosophy of frugality and tightfinancial control

{


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AGENCY

CONFL ICTS


manager risk aversion = 0corporate culture already risk-averse butcompany still posts strong returns

FCF problems = 0/+managerial philosophy of frugality and tightfinancial control

ASYMMETRIC

INFO

shift from Pecking Order = 0/+use debt to buy back equity, which can signal thatmanagers believe firm is undervalued

{


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FINAL RECOMMENDATIONS



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Recommendation for AHPsCapital Structure

A M E R I C A N H O M E P RO D U C T S

C A N I N C R E A S E I T S

S H A R E H O L D E R S R E T U R N S

B Y TA K I N G O N M O R E D E B T,

E V E N U P TO 7 0 % B O O K

VA L U E L E V E R A G E .


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Select Financial Data AfterCapital Structure Shift

FIRM VALUE

$4447 MM

LEVERAGE

STOCK PRICE

CURRENT

FIRM VALUE

$5597 MM

LEVERAGE

STOCK PRICE

RECOMMENDED


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FIRM VALUE

$4447 MM

LEVERAGE $13.9 MM

STOCK PRICE

CURRENT

FIRM VALUE

$5597 MM

LEVERAGE ~15% market

value

STOCK PRICE

RECOMMENDED


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FIRM VALUE

$4447 MM

LEVERAGE $13.9 MM

STOCK PRICE

$30/share

CURRENT

FIRM VALUE

$5597 MM

LEVERAGE ~15% market

value

STOCK PRICE

$39.70/share

RECOMMENDED


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QUESTIONS?

T H A N K Y O U !

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