Introduction to the Jaguar Case

•In 1984, British government wants to privatize Jaguar, but what is a proper value?•Description of luxury car market and Jaguar’s recent results. •The problem that a high dollar presents.•A stab at valuation -- Price/earnings for German competitors. •Two exchange rate scenarios. •Review of valuation•Calculation of delta

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A General Valuation Framework• Steps involved in the valuation:

–Step 1: Estimate the free cash flows of an unlevered firm or project

–Step 2: Discount the unlevered cash flow with the WACC

• This is the value VL of the levered firm

–Step 3: Subtract the value of debt to get the value of equity

•VE =VL - D

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Estimating Free Cash Flows• Estimating the free cash flows of an unlevered firm or

project:

earnings before interest and taxes (EBIT) - taxes

= earnings before interest and after taxes (i.e., EBIAT= EBIT( 1 - C))

+ depreciation

= operating cash flows - capital expenditures

- investment in working capital

=total free cash flow to unlevered firm

Applying the valuation framework to the Jaguar case

•To find a value for Jaguar, must start withfree cash flows = profits after tax

+ depreciation - increase in working capital - capital expenditure

•Then take present value of these free cash flows.

•Finally, subtract long term debt.

Notes on Jaguar•Example:

If Jaguar has £ 50 million in free cash flows every year no debt and if its discount rate is 18 %, then its value is £ 50 million / 0.18 = £ 278 million

If £ 50 million is the free cash flow this year and if it grows at 5 % per year, then its value is

£ 50 million / (0.18 - 0.05) = £ 385 million•What if we try to project actual cash flows for Jaguar for the next five years? What do we do with cash flows beyond this horizon?•Answer: Form a terminal value of Jaguar based on some assumption about cash flows thereafter.