Subject: Discounted Cash Flow Valuation - Practice Exercises 1 . You have been asked value Rolla Inc., a publicly traded auto part company. You...
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In the problems below, you can use a risk premium of 5.5 percent and a tax rate of 40 percent if none is specified.

1. Union Pacific Railroad reported net income of $770 million after interest expenses of $320 million in a recent financial year. (The corporate tax rate was 36 percent.) It reported depreciation of $960 million in that year, and capital spending was $1.2 billion. The firm also had $4 billion in debt outstanding on the books, was rated AA (carrying a yield to maturity of 8 percent), and was trading at par (up from $3.8 billion at the end of the previous year). The beta of the stock is 1.05, and there were 200 million shares outstanding (trading at $60 per share), with a book value of $5 billion. Union Pacific paid 40 percent of its earnings as dividends and working capital requirements are negligible. (The Treasury bond rate is 7 percent.)

a. Estimate the FCFF for the most recent financial year.


b. Estimate the value of the firm now.


c. Estimate the value of equity and the value per share now.


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Assume you have a 1-year investment horizon and are trying to choose among three bonds. All have the same degree of default risk and mature in 10 years. The first is a zero-coupon bond that pays $1,000 at maturity. The second has an 8.8% coupon rate and pays the $88 coupon once per year. The third has a 10.8% coupon rate and pays the $108 coupon once per year. a. If all three bonds are now priced to yield 9% to maturity, what are their prices? (Round your answers to 2 decimal places. Omit the "$" sign in your response.) Zero Coupon 8.8% Coupon 10.8% Coupon Current prices $ $ $ b. If you expect their yields to maturity to be 9% at the beginning of next year, what will their prices be then? What is your before-tax holding-period return on each bond? If your tax bracket is 30% on ordinary income and 20% on capital gains income, what will your aftertax rate of return be on each? (Round your answers to 2 decimal places. Omit the "$ & %" signs in your response.) Zero Coupon 8.8% Coupon 10.8% Coupon Current prices S S Pre-tax rate of return % % After-tax rate of return % % %% c. If you expect their yields to maturity to be 8% at the beginning of next year, what will their prices be then? What is your before-tax holding-period return on each bond? If your tax bracket is 30% on ordinary income and 20% on capital gains income, what will your aftertax rate of return be on each? (Round your answers to 2 decimal places. Omit the "$ & %" signs in your response.) Zero Coupon 8.8% Coupon 10.8% Coupon Current prices Pre-tax rate of return % % % After-tax rate of return

15. value: 10.00 points Assume you have a one-year investment horizon and are trying to choose among three bonds. All have the same degree of default risk and mature in 9 years. The first is a zero-coupon bond that pays $1,000 at maturity. The second has an 7.7% coupon rate and pays the $77 coupon once per year. The third has a 9.7% coupon rate and pays the $97 coupon once per year. a. If all three bonds are now priced to yield 7.7% to maturity, what are their prices? (Do not round intermediate calculations. Round your answers to 2 decimal places.) Zero 7.7% Coupon 9.7% Coupon Current prices $ $ b-1. If you expect their yields to maturity to be 7.7% at the beginning of next year, what will their prices be then? (Do not round intermediate calculations. Round your answers to 2 decimal places.) Zero 7.7% Coupon 9.7% Coupon Price one year from now $ $ $ b-2. What is your rate of return on each bond during the one-year holding period? (Do not round intermediate calculations.Round your answers to 2 decimal places.) Zero 7.7% Coupon 9.7% Coupon Rate of return % % %

Subject: Discounted Cash Flow Valuation - Practice Exercises 1 . You have been asked value Rolla Inc., a publicly traded auto part company. You estimate the following numbers for the next 3 years (high growth period) for the company. Year Current 2 3 4 to 0O EBIT (1 -T) = NOPAT $80.00 $92.00 $105.80 $121.67 [Dep - Capex - ANWC]= 75% of NOPAT FCFF $20.00 $23.00 $26.45 $30.42 Reinvestment Requirement (RR) = (Dep. - Capex - ANWC)/EBIT (1 - ) At the end of year 3, the firm will be in stable growth with expected growth rate of 4% forever. The firm's net reinvestment requirements in the stable state will decrease from 75% of NOPAT to 33.33%. The firm currently has cost of capital of 10%, a cash balance of $50 million and debt outstanding of $250 million. There are 100 million common shares outstanding. Required: (i) What is your estimate of enterprise value (EV); firm value; and firm's equity value per share? Use the following information to answer the questions below. In the face of disappointing earnings results and increasingly assertive institutional stockholders, Eastman Kodak was considering the sale of its health division which earned $560 million in earnings before interest and taxes in 1993, on revenues of $5.285 billion. The expected growth in earnings was expected to moderate to 6% between 1994 and 1998 and to a 4% after that. Capital expenditures amounted to $420 million in 1993, while depreciation was $350 million. Both are expected to grow 4% a year in the long term. Working capital requirements are negligible. The average beta of firms competing with Eastman Kodak's division is 1.15. While Eastman has a debt to value ratio of 50%, the health division can sustain debt to value ratio of 20% which is similar to the average debt ratio of firms competing in the health sector. At this level of debt, the health division can expect to pay 7.5% on its debt, before taxes. The tax rate is 40%, the T-bond rate is 7%, and the market risk premium is estimated at 5.55%. Required: a. Estimate the division's FCFF over the next five years and terminal cash flows during the steady state period and show the results in table below: b. What is the appropriate cost of equity, cost of debt and WACC to value the health division? Show your computations. C. What is the estimated value of the division based on your cash flow estimates and the discount rate?

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