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Value of Operations in Year 0

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Leak Inc. forecasts the free cash flows (in millions) shown below. If the weighted average cost of capital is 11% and FCF is expected to grow at a rate of 5% after Year 2, what is the Year 0 value of operations, in millions? Assume that the ROIC is expected to remain constant in Year 2 and beyond (and do not make any half-year adjustments).

Year: 1 2
Free cash flow: -$50 $100

a. $1,456

b. $1,529

c. $1,606

d. $1,686

e. $1,770

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The solution explains how to calculate the year 0 value of operations.

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We first find the terminal value in year 2 of the cash flows beyond year 2. After year 2, the cash flows will grow at a constant rate ...

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