Executive Summary: A group of investors (Arundel group) is looking into the idea of purchasing the sequel rights associated with films produced by one or more major movie studios. Movie rights are to be purchased prior to films being made. Arundel wants to come up with a decision to either purchase all the sequel rights for a studio’s entire production during a specified period of time or purchase a specified number of major films. Arundel’s profitability is dependent upon the price it pays for a portfolio of sequel rights. Our analysis of Arundel’s proposal includes a net present value calculation of each movie production company.
In order to decide whether Arundel can make money buying movie sequel rights depends on whether the net present value of the production company’s movies is higher than the estimated 2M per film required to purchase the rights. 1. Why do the principals of Arundel Partners think they can make money buying movie sequel rights? 2. Why do the partners want to buy a portfolio of rights in advance rather than negotiating film-by-film to buy them? 3. Estimate the per-film value of a portfolio of sequel rights such as Arundel proposes to buy. You may use all or parts of Exhibits 6 to 9.
You may also find it helpful to consult the Appendix that explains how these numbers were prepared. Assume an annual discount rate of 12% for risky film cash flows, and a risk-free rate of 6%. a) First, simply compute the value of the portfolio (i. e. at the time Arundel pays for the rights) using the traditional NPV approach, ignoring embedded options. Based on this method, how much should Arundel be willing to pay per sequel right? As can be seen in exhibit to solution 2, we have estimated the per-film value of each production company.
MCA Universal, Warner Brothers and Walt Disney Co are the only production companies that provide a positive per film value, with values of 9. 89, 1. 92, 12. 56 million respectively. This value is calculated by dividing the net present value of all the movies by the total number of movies. We also calculated the average value of each production company based upon their share of the total number of movies produced. The companies with positive values were MCA Universal, Warner Brothers and Walt Disney Co is also the only production companies that provide a positive per film value, with values of 1. 0, 0. 37, 1. 40 million respectively. These values are based on the average value per film multiplied by the company抯 average share of the industry. b) Second, modify the NPV approach to account for the embedded option(s), explaining the nature of the option(s) you focus on. What is the implied value per right? 4. What problems or disagreements would you expect Arundel and a major studio to encounter in the course of a relationship like that described in the case? What contractual terms and provisions should Arundel insist on?