Homework Answers
The continuation value in year 4 for cash flow after year 4 is computed as shown below:
= Free cash flow in year 4 ( 1 + growth rate ) / ( cost of capital - growth rate )
= $ 198,000 ( 1 + 0.03 ) / ( 0.14 - 0.03 )
= $ 1,854,000
The value today of this division is computed as follows:
= Year 1 free cash flow / ( 1 + cost of capital )1 + Year 2 free cash flow / ( 1 + cost of capital )2 + Year 3 free cash flow / ( 1 + cost of capital )3 + Year 4 free cash flow / ( 1 + cost of capital )4 + continuation value in year 4 / ( 1 + discount rate )4
= - $ 167,000 / 1.14 - $ 6,000 / 1.142 + $ 91,000 / 1.143 + $ 198,000 / 1.144 + $ 1,854,000 / 1.144
= $ 1,125,263 Approximately
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= $
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