472 CHAPTER 12 Corporate Valuation, Value-Based Management, and Corporate Governance
a.Forecast the parts of the income statement and balance sheets necessary to calculate free
cash flow.
b.Calculate free cash flow for each projected year. Also calculate the growth rates of free cash
flow each year to ensure that there is constant growth (that is, the same as the constant
growth rate in sales) by the end of the forecast period.
c.Calculate operating profitability (OP NOPAT/Sales), capital requirements (CR Oper-
ating capital/Sales), and expected return on invested capital (EROIC Expected
NOPAT/Operating capital at beginning of year). Based on the spread between expected
ROIC and WACC, do you think that the company will have a positive market value added
(MVA Market value of company Book value of company Value of operations Op-
erating capital)?
d.Calculate the value of operations and MVA. (Hint: First calculate the horizon value at the
end of the forecast period, which is equal to the value of operations at the end of the forecast
period. Assume that growth beyond the horizon is 6 percent.)
e.Calculate the price per share of common equity as of 12/31/2002.Balance Sheets for December 31 (Millions of Dollars)Assets 2002 Liabilities and Equity 2002
Cash $ 8.0 Accounts payable $ 16.0
Marketable Securities 20.0 Notes payable 40.0
Accounts receivable 80.0 Accruals 40.0
Inventories 160.0 Total current liabilities $ 96.0
Total current assets $268.0 Long-term bonds 300.0
Net plant and equipment 600.0 Preferred stock $ 15.0
Common stock (par plus PIC) $257.0
Retained earnings 200.0
Common equity $457.0
Total assets $868.0 Total liabilities and equity $868.0ActualProjected
2002 2003 2004 2005 2006
Sales growth rate 15% 10% 6% 6%
Costs/sales 72% 72 72 72 72
Depreciation/net PPE 10 10 10 10 10
Cash/sales 1 1 1 1 1
Accounts receivable/sales 10 10 10 10 10
Inventories/sales 20 20 20 20 20
Net PPE/sales 75 75 75 75 75
Accounts payable/sales 2 2 2 2 2
Accruals/sales 5 5 5 5 5
Tax rate 40 40 40 40 40
Weighted average cost of
capital (WACC) 10.5 10.5 10.5 10.5 10.5The ratios and selected information for the current and projected years are shown below.