international corporate finance
of situation (leveraged buyout – LBO) where capital structure changes over time.
The buyer initially borrows a lot and plans to pay back later, as shown in Exhibit
1. Is SJL worth the $29 million asking price? What value would you assign to
the company? Assume U.S. equity premium is 6-8%. Pay attention to what
discount rates to use for cash flows and different tax shields.
2. Does PruAsia’s target dollar returns (that is, IRR) of 20-25% appear
achievable for this deal under the proposed terms? What must be done over
the next 5 to 10 years to realize these returns? Is it realistic? (Hint: In
answering this question, consider PruAsia’s exit strategy. PruAsia is investing
in both subordinated debt and equity of SJL. The sub-debt offers only 9.5%,
which is not enough to attain 20-25% return So PruAsia would have to sell
equity to someone in 5 to 10 years at a high enough price to achieve IRR of
20-25%. The question is: how much do they have to sell the equity for?)