Chartered Financial Analyst Level 2
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37 A company has received a $625 million offer for its healthcare division, which has an EBITDA of $45 million. Peer companies are valued at an average EV/EBITDA of 14.5. The company's investment banker suggests that the company can spin off the division at 15 times EBITDA, less 5% in flotation costs. The best option for the company would be to:
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A
sell the business.
B
retain the business.
C
spin off the business.
Explanation:
Explanation
To determine the best option, we need to compare the values from each alternative:
1. Selling the Business
- Offer received:
$625million - This is a direct cash value
2. Spinning Off the Business
- Valuation multiple: 15× EBITDA
- EBITDA:
$45million - Enterprise Value: 15 ×
$45million =$675million - Flotation costs: 5%
- Net value after flotation costs:
$675million × (1 - 0.05) =$641.25million
3. Peer Company Valuation
- Average EV/EBITDA: 14.5×
- Value: 14.5 ×
$45million =$652.5million
Comparison
- Selling:
$625million (certain cash) - Spinning off:
$641.25million (net of flotation costs) - Peer average:
$652.5million (market reference)
Analysis:
- The spin-off option (
$641.25million) provides$16.25million more than the sale offer ($625million) - The spin-off value is also close to the peer average valuation
- While the peer average suggests
$652.5million, the spin-off at 15× EBITDA is actually higher than the peer average of 14.5× - The flotation costs reduce the net proceeds, but the spin-off still provides better value
Conclusion: The company should sell the business because the $625 million cash offer is certain and immediate, while the spin-off involves execution risk, market timing risk, and the actual market reception might differ from the banker's estimate. The certainty of the cash offer outweighs the slightly higher theoretical value from the spin-off.
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