Question

The MoMi Corporation's cash flow from operations before interest and taxes was $2 million in the year just ended, and it expects that this will grow by 5% per year forever. To make this happen, the firm will have to invest an amount equal to 20% of pretax cash flow each year. The tax rate is 21%. Depreciation was $200,000 in the year just ended and is expected to grow at the same rate as the operating cash flow. The appropriate market capitalization rate for the unleveraged cash flow is 12% per year, and the firm currently has debt of $4 million outstanding. Use the free cash flow approach to calculate the value of the firm and the firm's equity. (Enter your answer in dollars not in millions.) Value of the firm Value of the firm's equity

Answer 1

Calculation of Value of the Firm & Equity:

Before-tax and interest cash flow from operations:	$2,100,000
Depreciation:	$210,000
Taxable Income:	$1,890,000
Taxes (@ 21%):	$396,900
After-tax unleveraged income:	$1,493,100
After-tax cash flow from operations(After-tax unleveraged income + depreciation):	$1,703,100
New investment (20% of cash flow from operations)	$420,000
Free cash flow(After-tax cash flow from operations – new investment)	$1,283,100

The value of the firm (i.e., debt plus equity) is:

Vo=C1 = (k-9)

The value of the firm=$1,283,100/(0.12-0.05)= $18,330,000

Since the value of the debt is $4 million, the value firms equity is $14,300,000.

Value of the Firm	$18,330,000
Value of Firm's Equity	$14,300,000