Financial Reporting, Financial Statement Analysis and Valuation
8th Edition
ISBN: 9781285190907
Author: James M. Wahlen, Stephen P. Baginski, Mark Bradshaw
Publisher: Cengage Learning
expand_more
expand_more
format_list_bulleted
Videos
Textbook Question
Chapter 12, Problem 6QE
Suppose you are valuing a healthy, growing, profitable firm and you project that the firm will generate negative
Expert Solution & Answer
Want to see the full answer?
Check out a sample textbook solution
Students have asked these similar questions
You are evaluating the potential purchase of a small business currently generating $ 42,500 of after-tax cashflow. On the basis of a review of similar risk investment opportunities, you must earn 15% rate of return on the proposed purchase. Because you are relatively uncertain about future cash flows, you decide to estimate the firm’s value using several assumptions about the growth rate of cash flows.
What is the firm’s value if cash flows are expected to grow at an annual rate 12% for the first 2 years, followed by a constant rate of 9% from year 3 to infinity?
The managers of a company are considering an investment with the following estimated cash flows. MARR is 15% per year. The company is inclined to make the investment; however, the managers are nervous because all of the cash flows and the useful life are approximate values. The capital investment is known to be within ±5%. Annual expenses are known to be within ±10%. The annual revenue, market value, and useful life estimates are known to be within ±20%. Solve, a. Analyze the sensitivity of PW to changes in each estimate individually.Based on your results,make a recommendation regarding whether or not they should proceed with this project. Graph your results for presentation to management.b.The company can perform market research and/or collect more data to improve the accuracy of these estimates. Rank these variables by ordering them in accordance with the need for more accurate estimates (from highest need to lowest need).
Should stockholder wealth maximization be thought of as a long-term or a short-term goal? For example, if one action increases a firm’s stock price from a current level of $20 to $25 in 6 months and then to $30 in 5 years but another action keeps the stock at $20 for several years but then increases it to $40 in 5 years, which action would be better? Think of some specific corporate actions that have these general tendencies.
Chapter 12 Solutions
Financial Reporting, Financial Statement Analysis and Valuation
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
- A company expects sales to increase during the coming year, and it is using the AFN equation to forecast the additional capital that it must raise. Which of the following conditions would cause the AFN to increase? a. The company's profit margin increases. b. The company previously thought its fixed assets were being operated at full capacity, but now it learns that it actually has excess capacity. c. The company increases its dividend payout ratio. d. The company decides to stop taking discounts on purchased materials. e. The company begins to pay employees monthly rather than weekly.arrow_forwardYou are evaluating the potential purchase of a small business currently generating $42,500 of after-tax cash flow. On the basis of a review of similar-risk investment opportunities, you must earn an 18% rate of return on the proposed purchase. Because you are relatively uncertain about future cash flows, you decide to estimate the firm’s value using several possible assumptions about the growth rate of cash flows.(i) What is the firm’s value if cash flows are expected to grow at an annual rate of 0% from now to infinity? (ii) What is the firm’s value if cash flows are expected to grow at a constant annual rate of 7% from now to infinity? (iii) What is the firm’s value if cash flows are expected to grow at an annual rate of 12% for the first 2 years, followed by a constant annual rate of 7% from year 3 to infinity?arrow_forwardSuppose you are asked to value a small start-up company that is expected to generate a Free CashFlow of - $100 million next year, and - $50 million in the following year (year 2), before the firmturns profitable in year 3. Its first positive cash flow is equal to $2 million, and cash flows are expected to grow at a rate of 15% per year for 10 years (until year 13). Then, between year 13 and 14,the growth rate drops to 7% and stays there forever. Value the start-up company if the relevant discount rate is equal to 9%. My question is when calculating the perpetuity with a cosntant growth rate, why we muliply: 1/(1+r)^13 * E(CF_14)/0,09-0,07 Why does this make sense?arrow_forward
- Can a firm have negative residual income (i.e., abnormal earnings)? What does this mean? Suppose you are valuing a growing firm and you forecast that it will have negative abnormal earnings for the next five years. Can you use the abnormal earnings valuation approach when abnormal earnings are negative?arrow_forwardShould stockholder wealth maximization be thought of as a long-term or a short-term goal? For example, if one action increases a firm’s stock price from a current level of $20 to $25 in 6 months and then to $30 in 5 years but another action keeps the stock at $20 for several years but then increases it to $40 in 5 years, which action would be better? Think of some specific corporate actions that have these general tendencies. Financial ratio analysis is conducted by three main groups of analysts: credit analysts, stock analysts, and managers. What is the primary emphasis of each group, and how would that emphasis affect the ratios they focus on? Why might it be rational for a small firm that does not have access to the capital markets to use the payback method rather than the NPV method? A small firm intends to increase the capacity of a bottleneck operation by adding a new machine. Two alternatives, A and B, have been identified and the associated costs and revenues have been…arrow_forwardThrough a simulation model, the management consultants of ZZZ Corporation estimates that the free cashflows of the to-be-acquired firms is 2,700,000. It’s forecasted operating income growth rate is 4%while its forecasted growth in net income is 5%. ZZZ requires a return on the firm at 22%. Based on those information, what is the value of the firm?arrow_forward
- As part of their investment strategy, the Carringtons have decided to put $100,000 into stock market investments and also into purchasing precious metals. The performance of the investments depends on the state of the economy in the next year. In an expanding economy, it is expected that their stock market investment will outperform their investment in precious metals, whereas an economic recession will have precisely the opposite effect. Suppose the following payoff matrix gives the expected percentage increase or decrease in the value of each investment for each state of the economy. Expanding Economic economy recession Stock market investment Commodity investment 20 10 -10 15 (a) Determine the optimal investment strategy for the Carringtons' investment of $100,000. (Round your answers to the nearest dollar.) stocks $ commodities $ (b) What profit can the Carringtons expect to make on their…arrow_forwardAs part of their investment strategy, the Carringtons have decided to put $100,000 into stock market investments and also into purchasing precious metals. The performance of the investments depends on the state of the economy in the next year. In an expanding economy, it is expected that their stock market investment will outperform their investment in precious metals, whereas an economic recession will have precisely the opposite effect. Suppose the following payoff matrix gives the expected percentage increase or decrease in the value of each investment for each state of the economy. Expanding Economic economy recession Stock market investment Commodity investment 30 5 -10 20 (a) Determine the optimal investment strategy for the Carringtons' investment of $100,000. (Round your answers to the nearest dollar.) stocks $ commodities $arrow_forwarda) 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.arrow_forward
- A financial analyst is attempting to assess the future dividend policy of Environmental Systems by examining its life cycle. She anticipates no payout of earnings in the form of cash dividends during the development stage (I). During the growth stage (II), she anticipates 13 percent of earnings will be distributed as dividends. As the firm progresses to the expansion stage (III), the payout ratio will go up to 37 percent and will eventually reach 59 percent during the maturity stage (IV). a. Assuming earnings per share will be as follows during each of the four stages, indicate the cash dividend per share (if any) during each stage. (Leave no cells blank - be certain to enter "0" wherever required. Do not round intermediate calculations and round your answers to 2 decimal places.) Stage I $ 0.40 Stage II 1.80 Stage III 2.70 Stage IV 3.30 b. Assume in Stage IV that an investor owns 325 shares and is in a 15 percent tax bracket. What will be the…arrow_forwardSuppose that your company’s weighted-average cost of capital is 9 percent. Your company is planning to undertake a project with an internal rate of return of 12%, but you believe that this project is not a good investment for the firm. What logical arguments might you use to convince your boss to forego the project despite its high rate of return? Is it possible that making investments with expected returns higher than your company’s cost of capital will destroy value? If so, how?arrow_forwardAs companies evolve, certain factors can drive sudden growth. This may lead to a period of nonconstant, or variable, growth. This would cause the expected growth rate to increase or decrease, thereby affecting the valuation model. For companies in such situations, you would refer to the variable, or nonconstant, growth model for the valuation of the company’s stock. Consider the case of Portman Industries: Portman Industries just paid a dividend of $1.92 per share. The company expects the coming year to be very profitable, and its dividend is expected to grow by 12.00% over the next year. After the next year, though, Portman’s dividend is expected to grow at a constant rate of 2.40% per year. Assuming that the market is in equilibrium, use the information just given to complete the table. Term Value Dividends one year from now (D₁) Horizon value (Pˆ1P̂1) Intrinsic value of Portman’s stock The risk-free rate (rRFrRF) is 3.00%, the market risk…arrow_forward
arrow_back_ios
SEE MORE QUESTIONS
arrow_forward_ios
Recommended textbooks for you
Financial Reporting, Financial Statement Analysis...FinanceISBN:9781285190907Author:James M. Wahlen, Stephen P. Baginski, Mark BradshawPublisher:Cengage Learning
EBK CONTEMPORARY FINANCIAL MANAGEMENTFinanceISBN:9781337514835Author:MOYERPublisher:CENGAGE LEARNING - CONSIGNMENT
Financial Reporting, Financial Statement Analysis...
Finance
ISBN:9781285190907
Author:James M. Wahlen, Stephen P. Baginski, Mark Bradshaw
Publisher:Cengage Learning
EBK CONTEMPORARY FINANCIAL MANAGEMENT
Finance
ISBN:9781337514835
Author:MOYER
Publisher:CENGAGE LEARNING - CONSIGNMENT
FIN 300 Lab 1 (Ryerson)- The most Important decision a Financial Manager makes (Managerial Finance); Author: AllThingsMathematics;https://www.youtube.com/watch?v=MGPGMWofQp8;License: Standard YouTube License, CC-BY
Working Capital Management Policy; Author: DevTech Finance;https://www.youtube.com/watch?v=yj-XbIabmFE;License: Standard Youtube Licence