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Fundamentals of Financial Manageme...

14th Edition
Eugene F. Brigham + 1 other
ISBN: 9781285867977

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BuyFindarrow_forward

Fundamentals of Financial Manageme...

14th Edition
Eugene F. Brigham + 1 other
ISBN: 9781285867977
Textbook Problem

CORPORATE VALUATION Barrett Industries Invests a large sum of money in R&D; as a result, it retains and reinvests all of its earnings. In other words. Barrett does not pay any dividends and it has no plans to pay dividends in the near future. A major pension fund is interested in purchasing Barrett’s stock. The pension fund manager has estimated Barrett’s free cash flows for the next 4 years as follows: $3 million. $6 million, $10 million, and $15 million. After the fourth year, free cash flow is projected to grow at a constant 7%. Barrett’s WACC is 12%, the market value of its debt and preferred stock totals $60 million, and it has 10 million shares of common stock outstanding.

  1. a. What is the present value of the free cash flows protected during the next 4 years?
  2. b. What is the firm’s horizon, or continuing, value?
  3. c. What b the firm’s total value today?
  4. d. What is an estimate of Barrett’s price per share?

a.

Summary Introduction

To identify: The net present value of cash flows.

Net Present Value:

It is that amount which indicates the difference reported on subtraction of the cash outflows from the cash inflows.

To identify: The net present value of cash flows.

Explanation

Given,

The cash flow for the first year is $3 million.

The cash flow for the second year is $6 million.

The cash flow for the third year is $10 million.

The cash flow for the fourth year is $15 million.

The interest rate or weighted average cost of capital (WACC) is 12%.

Formula to calculate the net present value,

NPV=CF0+CF1(1+r)1+CF2(1+r)2+...+CFn(1+r)n

Where,

  • NPV is net present value.
  • CF0 is cash flow of the initial year.
  • CF1 is cash flow of the first year.
  • CF2 is the cash flow of second year.
  • CFn is cash flow for the last year.

Substitute $3,000,000 for CF1, $6,000,000 for CF2, $10,000,000 for CF3, 15,000,000 for CF4, 0.12 for r.

NPV=$3,000,000(1+0

b.

Summary Introduction

To identify: The horizon value of firm.

c.

Summary Introduction

To identify: The total value of the firm.

Summary Introduction

To identify: The price per share.

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