4. Free cash flows should be discounted at the firm's weighted average cost of capital to find the value of its operations.
5. If a company's expected return on invested capital is less than its cost of equity, then the company must also have a negative market value added (MVA).
6. ESOPs were originally designed to help improve worker productivity, but today they are also used to help prevent hostile takeovers.
9. 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 previously thought its fixed assets were being operated at full capacity, but now it learns that it actually has excess capacity.
b. The company increases its dividend payout ratio.
c. The company begins to pay employees monthly rather than weekly.
d. The company's profit margin increases.
e. The company decides to stop taking discounts on purchased materials.
10. Which of the following statements is CORRECT?
a. Inherent in the basic, unmodified AFN formula are these two assumptions: (1) each asset item must grow at the same rate as sales, and (2) spontaneous liability accounts must also grow at the same rate as sales.
b. If a firm's assets are growing at a positive rate, but its retained earnings are not increasing, then it would be impossible for the firm's AFN to be negative.
c. If a firm increases its dividend payout ratio in anticipation of higher earnings, but sales and earnings actually decrease, then the firm's actual AFN must, mathematically, exceed the previously calculated AFN.
d. Higher sales usually require higher asset levels, and this leads to what we call AFN. However, the AFN will be zero if the firm chooses to retain all of its profits, i.e., to have a zero dividend payout ratio.
e. Dividend policy does not affect the requirement for external funds based on the AFN formula method.
11. Fairchild Garden Supply expects $600 million of sales this year, and it forecasts a 15% increase for next year. The CFO uses this equation to forecast inventory requirements at different levels of sales: Inventories = $30.2 + 0.25(Sales). All dollars are in millions. What is the projected inventory turnover ratio for the coming year?
12. Last year Jain Technologies had $250 million of sales and $100 million of fixed assets, so its FA/Sales ratio was 40%. However, its fixed assets were used at only 75% of capacity. Now the company is developing its financial forecast for the coming year. As part of that process, the company wants to set its target Fixed Assets/Sales ratio at the level it would have had had it been operating at full capacity. What target FA/Sales ratio should the company set?
13. Clayton Industries is planning its operations for next year, and Ronnie Clayton, the CEO, wants you to forecast the firm's additional funds needed (AFN). Data for use in your forecast are shown below. Based on the AFN equation, what is the AFN for the coming year? Dollars are in millions.
last Years Sales = so $350 Last years accounts payable $40
Sales growth rate = g 30% lAST YEARS NOTES PAYABLE (TO BANK) $50
Last years total assests = ao $500 Last years accurals $30
Last years profit margin = m 5% Target payout ratio 60 %
14. Chua Chang & Wu Inc. is planning its operations for next year, and the CEO wants you to forecast the firm's additional funds needed (AFN). Data for use in your forecast are shown below. Based on the AFN equation, what is the AFN for the coming year?
last Years Sales = so $200,000 Last years accounts payable $50,000
Sales growth rate = g 40% lAST YEARS NOTES PAYABLE (TO BANK) $15,000
Last years total assests = ao $135,000 Last years accurals $20,000
Last years profit margin = m 20% Target payout ratio 25 %
15. Simonyan Inc. forecasts a free cash flow of $40 million in Year 3, i.e., at t = 3, and it expects FCF to grow at a constant rate of 5% thereafter. If the weighted average cost of capital is 10% and the cost of equity is 15%, what is the horizon value, in millions at t = 3?
17. A company forecasts the free cash flows (in millions) shown below. The weighted average cost of capital is 13%, and the FCFs are expected to continue growing at a 5% rate after Year 3. Assuming that the ROIC is expected to remain constant in Year 3 and beyond, what is the Year 0 value of operations, in millions? Year: 1 2 3 Free cash flow: -$15 $10 $40
19. In a brief paragraph, please define what a pro forma financial statement is (forecasted financial statement method).
20. In a couple of sentences, please describe how stock options for an employee can be of value when the companyâ??s stock price does not meet the stockholders expectations.
Please see attached file for answers.
The free cash flows pertains to the entire firm as opposed to the free cash flows to equity
Definition of MVA: A calculation that shows the difference between the market value of a company and the capital contributed by investors (both bondholders and shareholders). In other words, it is the sum of all capital claims held against the company plus the market value of debt and equity.
ESOPs were ...