1. Why does Radio One want to acquire the 12 urban stations from Clear Channel Communications in the top 50 markets along with the stations in Charlotte, N.C., Augusta, Georgia, and Indianapolis, Indiana? What the sources of potential benefit and risk with these acquisitions? Radio One wants to acquire 12 urban stations since it feels that the opportunity which has come is something which does not happen everyday. If it is able to buy these 12 channels, it would double the size of Radio One and give it a national presence. The potential benefits would be a. The acquisition would make Radio One market leader in African-American radio stations. It would give national presence. These two things combined would help increase advertising revenues b. There would be cost benefits to Radio One. Radio One already had many centralized functions and so adding these radio stations, the costs would not increase so much and there would be synergy benefits c. The African-American radio listeners were increasing at a faster rate and the income was also increasing. Having more radio stations would help in generating more revenue d. The acquisition would serve as base for expansion into other media – cable, recording industry and internet The sources of risk would be a. The size of the deal is very large. It would double the number of radio stations and so managing the integration may be difficult. b. There may be some cannibalization from the existing listeners and so the synergy benefits may be lower than anticipated. c. The income statement shows that the company is making losses. The acquisition would need more cash and so servicing the debt may be a problem. d. Radio One has no expertise in the other media of cable, recording industry and internet. 2. What price should Radio One offer based upon a discounted cash flow analysis? Are the cash flows in the exhibits reasonable? (The points below may be of assistance in your analysis.) a. Assume an effective tax rate of 34% going forward b. The new capital investments required each year will generate additional depreciation expenses beyond the 90 million noted in the case exhibits. You might simplify your analysis by assuming that these additional capital investments will each have five year life and might be depreciated on a straight line basis. c. In addition to the new capital investments, this expansion will require a commitment of net working capital. You might consider using the balance sheet and income statement data for the prior three years to establish a relationship between revenue net of commissions and net working capital. d. General corporate expenses might be allocated based upon BCF and/or assumed to decline due to economies of scale. e. Assume a market risk premium at the time of the case of 7.2%. In order to calculate the price, we need to do a discounted cash flow analysis
The DCF calculation is below $ '000 Year Net Broadcast Revenues Broadcast Cash Flows (BCF)
1999 105,39 2
2000 114,14 3
59,01 4
3 65,04
1 2,95
Corporate Expenses Changes in Working Capital
1
30
25,29
Free Cash Flow
9
115,27 7
66
66 613 3,72
3,87
1,20
6 1,20
0 71,26
5
0
6
5
0
2004 175,82
101,96
4 3,40
61,43
5
1
1 1,20
0
2003 159,98
89,71
57
2,10
Capital Expenditure Depreciation tax shield
0
0
0
2002 144,46
76,43 6
1
4
2001 128,31
3,80 0
1,20 0
83,97 2
6 1,20 0
96,42 7
109,61 1 1,705,06
Terminal Value
1 16
Depreciation tax shield
82 61,52
Total
1
3
24
71,42 9
1,06
5
326 96,75
84,21 7
4
5 1,815,73 7
1,276,51 NPV
2
How the cash flows are calculated 1. The BCF taken from Exhibit 9 for new markets. 2. Corporate expenses assumed at 5% of incremental BCF. It is expected that corporate expenses will not increase significantly with the new acquisition since Radio One already has centralized functions which can handle the new acquisitions. 3. Working capital taken as 25% of net revenues. The working capital percentage has been declining and was 22% in 1999. 25% is average of 1998 and 1999. 4. Capital expenditure is given as $100 per station 5. The depreciation tax shield is calculated for $1,200 per year depreciated for 5 years. For years beyond 2004, the PV of all tax shield is added together. For terminal value, a growth rate of 5% is assumed. 6. Risk free rate is 30 years T-bond, average asset beta is 0.75 and the market risk premium is taken as 7.2%. This gives the discounting rate as 11.75% The amount to be paid comes to $1.277 billion 3. What price should Radio One offer based upon a trading multiples analysis? Based on multiples, the valuation comes to $1. 398 billion ( 21.5 X 2000 BCF) and $1.256 billion ( 19.4 X 2000 EBITDA). 4. Given that Radio One’s stock price is 30X BCF, can if afford to offer as much as 30X BCF for the new stations?
30X BCF would give a value of 30 X 65,041 = $1.951 billion. This amount is too high in relation to DCF calculations and in relation to multiple valuation. Radio One should not offer such high valuation. 5. What should Radio One offer for the new stations? As per the calculations, the value comes to DCF – 1.277 billion/21 stations = $60.8 million BCF multiple - $1.398 billion/21 = $66.57 million EBITDA multiple - $1.256 billion/12 = $59.81 million Infinity paid 1,400/18 = $78 million per station and Cox paid 380/7 = $54 million per station. Based on the above calculations, the price is between the range of $54 million and $78 million. So Radio One should start at the lower end of the range at say $60 million and be prepared to go up to $66 million the maximum based on multiple.
