PRIN.OF CORPORATE FINANCE
13th Edition
ISBN: 9781260013900
Author: BREALEY
Publisher: RENT MCG
expand_more
expand_more
format_list_bulleted
Videos
Textbook Question
Chapter 4, Problem 34PS
Valuing a business Construct a new version of Table 4.8, assuming that the concatenator division grows at 20%, 12%, and 6%, instead of 12%, 9%, and 6%. You will get negative early free cash flows.
- a) Recalculate the PV of
free cash flow . What does your revised PV say about the division's PVGO? - b) Suppose the division is the public corporation Concatenator Corp, with no other resources. Thus it will have to issue stock to cover the negative free cash flows. Does the need to issue shares change your valuation? Explain. (Hint: Suppose first that Concatenator’s existing stockholders buy all of the newly issued shares. What is the value of the company to these stockholders? Now suppose instead that all the shares are issued to new stockholders, so that existing stockholders don’t have to contribute any cash. Does the value of the company to the existing stockholders change, assuming that the new shares are sold at a fair price?)
Expert Solution & Answer
Want to see the full answer?
Check out a sample textbook solution
Students have asked these similar questions
1. A Cost Reduction Investment in capital will cost your company $1 million. Which of the options below provides the best return on investment?
a. Current sales units 20,000. Prime Cost reduced from $185 to $134.
b. Current sales units 40,000. Prime Cost reduced from $99 to $63.
c. Current sales units 6,000. Prime Cost reduced from $600 to $487.
d. Current sale units 10,000. Prime Cost reduced from $487 to $424
2. What is the primary reason for the higher cost of finance from shareholders than debt?
a. Shareholders receive dividends every year, so the company has to factor this in, whereas interest payments on loans are optional.
b. The assumption in the question is incorrect - banks always charge businesses more than shareholders.
c. Shareholders are greedy
d. Shareholders take on more risk and therefore require a higher return on their investment
Your corporate division had the following net cash flows: Assume that the risk-free rate is 1% per annum and the equity premium is 3%. Use the certainty equivalence concept to answer the following questions: What should be a reasonable value approximation for this corporate division? What should be the cost of capital for this corporate division?
a) One of the touted advantages of an ERM system is the stabilization of revenuethat results in shareholders valuing the business highly on the markets. Assumea firm has operating free cash flows of K300 million, which is expected to grow at13% for four years. After four years, it will return to a normal growth rate of 8%.Assuming that the weighted average cost of capital is 12%. Calculate the valueof the firm.
b) A project has a worked out IRR of 15%. Would you advise the companyto undertake this project at its current WACC? Give reasons for youranswer.
Chapter 4 Solutions
PRIN.OF CORPORATE FINANCE
Ch. 4 - Stock markets True or false? a. The bid price is...Ch. 4 - Stock quotes a. I would like to sell 1000 shares...Ch. 4 - Stock quotes Here is a small part of the order...Ch. 4 - Stock quotes Go to finance.yahoo.com and get...Ch. 4 - Valuation by comparables Look up P/E and P/B...Ch. 4 - Dividend discount model True or false? a. All...Ch. 4 - Dividend discount model Respond briefly to the...Ch. 4 - Dividend discount model Company X is expected to...Ch. 4 - Dividend discount model Company Y does not plow...Ch. 4 - Constant-growth DCF model Company Zs earnings and...
Ch. 4 - Prob. 11PSCh. 4 - Constant-growth DCF model Pharmecology just paid...Ch. 4 - Prob. 13PSCh. 4 - Cost of equity capital Under what conditions does...Ch. 4 - Cost of equity capital Each of the following...Ch. 4 - Two-stage DCF model Company Z-prime is like Z in...Ch. 4 - Two-stage DCF model Consider the following three...Ch. 4 - Two-stage DCF model Company Qs current return on...Ch. 4 - Two-stage DCF model Compost Science Inc. (CSI) is...Ch. 4 - Growth opportunities If company Z (see Problem 10)...Ch. 4 - Growth opportunities Alpha Corps earnings and...Ch. 4 - Prob. 24PSCh. 4 - Prob. 25PSCh. 4 - Prob. 26PSCh. 4 - Horizon value Suppose the horizon date is set at a...Ch. 4 - Valuing a business Permian Partners (PP) produces...Ch. 4 - Valuing a business Construct a new version of...Ch. 4 - Valuing a business Mexican Motors market cap is...Ch. 4 - Valuing a business Phoenix Corp. faltered in the...Ch. 4 - Constant-growth DCF formula The constant-growth...Ch. 4 - DCF valuation Portfolio managers are frequently...Ch. 4 - Valuing a business Construct a new version of...
Knowledge Booster
Learn more about
Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, finance and related others by exploring similar questions and additional content below.Similar questions
- make senariose to show when breakeven analysis achieved and compete profitability(Sensitivity Analysis (Best Case and Worst Case) -the break even involves determining when Neom's total revenue will equal its total costs. Assuming a steady increase in revenue, the revenue in the intial phase was 100 billion .. and capital cost was 225 billion. the breakeven point might occur in the third or fourth year of operation. Cumulative costs for the first four years could be around USD 300 billion, and marketing cost was 5 billion and operating cost was 20 billion . the breakeven point achievable if Neom generates around USD 75 billion in cumulative revenue by the fourth year، put many senariosarrow_forwardA firm wishes to maintain an internal growth rate of 6.4 percent and a dividend payout ratio of 25 percent. The current profit margin is 5.7 percent, and the firm uses no external financing sources. What must total asset turnover be? Internal growth rate 6.40% Payout ratio 25% Profit margin 5.70% Calculate Plowback ratio Return on assets Total asset turnoverarrow_forwardAn industrial firm with assets of $100 million is exploring the benefit of leveraging the balance sheet given expectations of economic growth. Currently, the firm is earning a return on assets of 9.00%, a return on equity of 15.00%, retains a debt ratio of 40% (equity to assets of 60%). The board of directors has requested management consider changing the debt ratio to 60% (equity to assets of 40%). The new debt will cost 4.00% given a credit rating downgrade. The firm will apply the proceeds of new debt to repurchase stock at book value. The firm is taxed @ 20% but expects that rate to rise in the future. First, estimate how the change in capital structure will impact pro forma net income, return on assets, and return on equity. Second, briefly indicate the advantages and risks of relying on additional debt to leverage the balance sheet.arrow_forward
- 1. Differentiate between centralized and decentralized operations. 2. Why do you think capital investment decisions are some of the most important decisions that management makes? 3. A company could sell a building for $250,000 or lease it for $2,500 per month. Without making computations,what would need to be considered in determining which of the two is preferred?arrow_forward14.EXCEL] Capital intensity ratio: For McDonald Metal Works in Problem 13, how much must net sales grow if the capital intensity ratio has to drop to 60 percent? State your answer as both a percent of sales and a dollar sales increase. 13. EXCEL] Capital intensity ratio: McDonald Metal Works has been able to generate net sales of $13,445,196 on assets of $9,145,633. What is the firm's capital intensity ratio?arrow_forwardHello, Romano corp has 3 operating divisions and requires a 13% rate of return on all investments. (didn't have questions on the first 2 divisions, thanks). Calculate the missing amounts: Revenues ??? Operating Income $98,200 Operating assets ??? Margin ??? % Turnover 3 (turns) ROI ??? % Residual Income $36,130 thanks...arrow_forward
- Situational Software Co. (SSC) is trying to establish its optimalcapital structure. Its current capital structure consists of 25% debt and 75% equity;however, the CEO believes that the firm should use more debt. The risk-free rate, rRF,is 4%; the market risk premium, RPM, is 5%; and the firm’s tax rate is 40%. Currently,SSC’s cost of equity is 12%, which is determined by the CAPM. What would beSSC’s estimated cost of equity if it changed its capital structure to 40% debt and60% equity?arrow_forwardSituational Software Co. (SSC) is trying to establish its optimal capital structure. Its current capital structure consists of 30% debt and 70% equity; however, the CEO believes that the firm should use more debt. The risk-free rate, rRF, is 3%, the market risk premium, RPM is 6%; and the firm's tax rate is 40%. Currently, SSC's cost of equity is 15%, which is determined by the CAPM. What would the SSC's estimated cost of equity if it changed its capital structure to 50% debt and 50% equity? Do not round intermediate calculations. Round your answer to two decimal places.arrow_forwardAssume the Hiking Shoes division of the All About Shoes Corporation had the following results last year (in thousands). Management's target rate of return is 20% and the weighted average cost of capital is 30%. Its effective tax rate is 30% Sales Operating income Total assets Current liabilities $13,000,000 3,250,000 4,000,000 830,000 What is the division's capital turnover ? A ) 4.00 4.821.23 D ) 3.25arrow_forward
- The calculation for assessing the value of a firm's new logistics information system is below. Which of the answers will result in the highest cash flow increase to the company, making it worth the investment. Cash Flow Increase = Invoice Value x (Cost of Capital/365) x Difference in Days in the Order-to-Cash Cycle Group of answer choices If the investment causes a dramatic increasing in the order to cash cycle days If the investment causes a dramatic decreasing the order to cash cycle days If the firm borrows money to make the investment (debt financing) at a very low cost If the investment allows sales to remain stablearrow_forwardRevenue-based valuation for the valuation of an automotive companythe reduced cash flow method will be applied from its methods. Company weightedbelow is information about determining the average cost of capital (r) shared:* 60% of the company's capital consists of equity, while the rest of the capital40% was obtained by financial borrowing.* The borrowing cost of the company is %(12 + 0.2 * X).* Corporate tax rate is 30%.* The firm's β-free coefficient is 1.2.* The risk-free interest rate is %(10 + 0.1 * Y) and the market return is %(18 + 0.1 * Z).Consider a 10-year projection period for reduced cash flow analysisshall be. 1 of the company. net income (1,200,000 + 50,000 * X) $ as of year-endand that's 10 per cent of revenue. it is expected to increase by $ 45,000 + 1,000 * Y each year until the end of the year.The continuous growth rate of cash flows after the projection period is 4 %calculate the value of the firm by assuming. x =0 y=2 z=0arrow_forwardSuppose the Board of Directors of Baldwin mandates that management take measures to increase financial leverage next year. Assuming revenue and profits remain the same, and assets are reduced by 20% through efficiency gains. What will the next year's ROE be if leverage increases by 20%? Baldwin currently ROE is 3.1 Group of answer choices A) 7.8% B) 12.9% C) 4.65% D) 10.3%arrow_forward
arrow_back_ios
SEE MORE QUESTIONS
arrow_forward_ios
Recommended textbooks for you
Managerial Accounting: The Cornerstone of Busines...AccountingISBN:9781337115773Author:Maryanne M. Mowen, Don R. Hansen, Dan L. HeitgerPublisher:Cengage Learning
Managerial Accounting: The Cornerstone of Busines...
Accounting
ISBN:9781337115773
Author:Maryanne M. Mowen, Don R. Hansen, Dan L. Heitger
Publisher:Cengage Learning
Economic Value Added EVA - ACCA APM Revision Lecture; Author: OpenTuition;https://www.youtube.com/watch?v=_3hpcMFHPIU;License: Standard Youtube License