Metro Furniture Company - Assignment Example

• Describe the position of each side

The IRS charges Metro Furniture Company with the responsibility of paying over $2 million in tax payments for the valuation of the company was less than the company’s actual worth. To make its argument, the IRS representative in charge of foreseeing the case, states that the valuation of the company took into account the P/E multiples method to value the company. Through this method, the IRS finds out that the value of the company was over $16 million while it was originally achieved through the application of the discounted cash flow method amount of $5,906,000. In addition, the IRS insists that the method of discounted cash flow does not offer the right value of the company since other companies within the same market and industry have higher values while operating at the same level as the Metro Furniture Company.

To the Metro Furniture Company, the valuation method that was carried out using the discounted method, may it be wrong, the valuation through the P/E multiples method considered the wrong companies for comparison since they were in different market positions. Applying the P/E method to estimate its value of earnings, the company used a multiple rounded to 8.0 while the IRS considered a multiple rounded to 18 to produce a value of $11,000,000 proposed by the IRS against the value of $7,400,000 of using the multiple of 8. As a result, the value of the company is seen to be higher than the discounted cash flow method amount, Nonetheless, the value is smaller the IRS proposed value. The company argues that this figure is fairer due to the fact that the multiple of 8 is extracted from the sales of Haverty Furniture Co. which had been suffering the same market challenges.

• If you were to represent Metro, how would you argue against the IRS valuation?

As the market for suburbs increases, the operations within the city centers have continued to shrinking sales for furniture companies. This argument is in relation to the fact that IRS consideration did not put into account the market factors. Nonetheless, the IRS is positioned on the argument that previous consistent growth of the company elevates its value and the value of $11,000,000 is the perfect market value of the company. However, if representing Metro Furniture Company, the amount proposed by the IRS would be invalid and overly overestimated. Based on the fact that Rhodes and Seaman Furniture Co. considered in IRS’s P/E multiples method results to a multiple that exceeds the operational capacity of the company. While trading within the same market, Metro Furniture Company and Rhodes & Seaman Companies did not operate at the same capacity. Metro Furniture Company was selling less furniture and covering a smaller market share as compared to Rhodes and Seaman.

As a result, the multiple of 18 applied to estimate the valieu of Metro Furniture Company shows that the company’s revenue generation is assumed to resemble that of other competing companies within the same industry. This assumption is misleading in the estimation since the method does not take into account growth rate which can be considered in another method. Even when considering the consistent growth rate of Metro Furniture Company, the competing and leading industry players did not elicit the same growth rate over the same time. Nonetheless, the operational capacities of Metro Furniture Company and Rhodes or Seaman do not reflect a fair multiple. However, on a fairer approach, the consideration of a company with the same market potential as Metro Furniture Company fits as a more logical approach. Without the consideration of growth rate, the operational capacities and the volatility of the market levels the market positions. Thus, most of the factors that would affect Metro Furniture Company are likely to the ones affecting a Harvety. Even though the value exceeds the $5,906,000 it is a smaller figure which also takes into account intangible factors such as competitive positions. Considering this figure would considerably lower the overall tax required for the primary undervaluation of the company.

• If you could turn back time would you do anything different if you represented Metro?

If turning back time was an option, the price multiples method would have been used when the valuation of the company was once conducted. Through the discounted cash flow model, it observed that the IRS would consider the company growth rate as well as the willingness of the public to buy the company’s shares. As a method of application, the price multiples method is applicable majorly to determine how much the company performance attracts investors and how willing they would be to purchase the company shares. The merit of considering this approach is because information is the key factor investors rely on to make decisions. Based on the historical performance and growth rate, investors can decide how stable the company is by running market and company analysis. Nonetheless, the association of public endorsement and performance of the company signals high value and low risks. For this reasons, the higher the demand of the company’s shares, the better the chances of increasing the company’s share prices. In this case, adjustments relying on demand show the air market value with respect to investment operations and projected returns (Cowhey, Barenbaum, & Klevan, 1995).

• If you represent the IRS what is your strongest argument for the value, you developed?

While representing the IRS, the strongest argument to offer is related to the development and the operational performance of the company. The growth rate has been consistent since 1983 after having grown with 19.8 percent from previous. The lowest growth rate was registered in 1987, having maintained a growth rate of above 11% in the previous four years, of 9.3%. This growth rate, compared with the changing consumer market shows that Metro Furniture Company is highly profitable and the dynamics of the market have no merit in a growing company. While also considering the argument that the company can consider the use of a P/E multiple of 8 because it resembles the market position, the resulting figure does not justify the fact that the company expanded rapidly while at the same time making investment returns. Unlike the operational capacity of Haverty resembling that of Metro Furniture Company, the latter is highly valued due to its operational and asset growth over the period of 5 years from 1983 to 1987 (Cowhey, Barenbaum, Klevan, 1995).

As a result, the capacities of the companies with the same financial power and operational capacity growth are in line with companies such as Rhodes and Seamman. Although the company may argue that the market positioning of these companies differs from its operations’ capacity, it is observed that the investor willingness to buy the company’s shares has grown consistently over the years. Thus, by using the price earnings method and considering fierce competition only represents the specific current best estimate. The argument that there is a decline in furniture sales due to shifting furniture demand does not hold for Metro Furniture Company since the company has been able to open stores in different areas. Business can be moved and the consideration of undervaluing a company on the basis of shifting demand is not valid (Cowhey, Barenbaum, Klevan, 1995).

• Was the Discounted Cash Flows model a proper valuation method in this case? What

others would you prefer?

The discounted cash flow model is not the best in properly valuing a company. Nonetheless, the method has the merits of being a reliable method because it estimates the risks of acquiring investment capital and investment in a company. As a result, the method implies that disposable income can easily be converted to equity to finance a company by buying stake. However, the method also implies that investors must consider how they acquire their money and the associated outcome that may result after investing with a company. The use of weighted average cost of capital take volatility into account. However, other valuation methods include price enterprise values, and comparable companies’ multiples, which, on the other hand, consider the investors willingness to invest, the target value of an M&A, and comparison of equally valued companies respectively (Mehta, 2013).

Since the Enterprise Value Multiples is concerned with M&As, its applicability in Metro Furniture Company valuation is not applicable, the price multiples method is considered the next best method. As discussed earlier, the method values the company based on the reception of information and endorsement of a company by investors. Therefore, a company with stable market position is valued in accordance to its position and performance. In addition, the comparable companies’ multiples method is also applicable and reliable as the price multiples method. This method compares the factors of information and trading within the same market. As a result, the use of the method indicates shared reliable information among buyers and sellers amounts to a reliable set of factors significantly important and totaling to relevant valuation (Mehta, 2013).

• How would you decide this case if you were a judge? A mediator?

If I were a judge, the applicability of one method at a time with the consideration of significant differences would be a signal that none of the applied methods is accurate given the assumptions each takes into account and the factors influencing the value of a company at any given time (Mehta, 2013). Following this understanding, the use of the component asset and liabilities valuation which resulted to a value of $1,755,000, the use of DCF method resulting to $5,906,000 in value, and use of IRS’s method of P/E multiples resulting to 11,919,000 in value, and Metro Furniture Company’s consideration of a comparable company to arrive at $7,400,000 in value would all be considered to identify the merit of the valuation (Ferris, & Pettit, 2013). Given that component asset and liabilities valuation resulted in a value that was unacceptable shows that the motive of the valuation is raise value in order to acquire higher tax returns. Given a fairly plausible method was seen to apply the value to $11,000,000, the IRS’s rejection of the initial $1,755,000 should consider evaluating the factors considered in every method before neglecting essential factors such as a company’s compatibility with the market and markets influencing factors on performance (Ferris, & Pettit, 2013).