CP

442 CHAPTER 12 Corporate Valuation, Value-Based Management, and Corporate Governance

nonoperating assets. Here is the equation for the value of operations, which is the

firm’s value as a going concern:

Value of operations VopPV of expected future free cash flow

(12-1)

MagnaVision’s cost of capital is 10.84 percent. To find its value of operations as a

going concern, we use an approach similar to the nonconstant dividend growth model,

proceeding as follows:

1. Assume that the firm will experience nonconstant growth for N years, after which
   it will grow at some constant rate.


2. Calculate the expected free cash flow for each of the N nonconstant growth years.


3. Recognize that after Year N growth will be constant, so we can use the constant
   growth formula to find the firm’s value at Year N. This is the sum of the PVs for
   year N
   1 and all subsequent years, discounted back to Year N.


4. Find the PV of the free cash flows for each of the N nonconstant growth years.
   Also, find the PV of the firm’s value at Year N.

a

t 1

FCFt

(1
WACC)t

.



FCF 1

(1
WACC)^1

FCF 2

(1
WACC)^2



FCF


(1
WACC)

TABLE 12-2 MagnaVision Inc.: Balance Sheets (Millions of Dollars)

Actual Projected

2002 2003 2004 2005 2006

Assets
Cash $ 17.0 $ 20.0 $ 22.0 $ 23.0 $ 24.0
Marketable securitiesa 63.0 70.0 80.0 84.0 88.0
Accounts receivable 85.0 100.0 110.0 116.0 121.0
Inventories 170.0 200.0 220.0 231.0 243.0
Total current assets $ 335.0 $ 390.0 $ 432.0 $ 454.0 $ 476.0
Net plant and equipment 279.0 310.0 341.0 358.0 376.0
Total assets $ 614.0 $ 700.0 $ 773.0 $ 812.0 $ 852.0

Liabilities and Equity

Accounts payable $ 17.0 $ 20.0 $ 22.0 $ 23.0 $ 24.0

Notes payable 123.0 140.0 160.0 168.0 176.0

Accruals 43.0 50.0 55.0 58.0 61.0

Total current liabilities $ 183.0 $ 210.0 $ 237.0 $ 249.0 $ 261.0

Long-term bonds $ 124.0 $ 140.0 $ 160.0 $ 168.0 $ 176.0

Preferred stock 62.0 70.0 80.0 84.0 88.0

Common stockb 200.0 200.0 200.0 200.0 200.0

Retained earnings 45.0 80.0 96.0 111.0 127.0

Common equity $ 245.0 $ 280.0 $ 296.0 $ 311.0 $ 327.0

Total liabilities and equity $ 614.0 $ 700.0 $ 773.0 $ 812.0 $ 852.0

Notes:

aAll assets except marketable securities are operating assets required to support sales. The marketable securities are financial assets not required in op-

erations.

bPar plus paid-in capital.

Corporate Valuation, Value-Based Management, and Corporate Governance 439