Several methods can be used to compute the intrinsic value of a share of a company’s common stock. One method uses the f
Posted: Sun May 29, 2022 6:25 pm
Several methods can be used to compute the intrinsic value of a
share of a company’s common stock. One method uses the free
cash flow (FCF) valuation model, while the another method uses
the dividend discount model.
The FCF valuation model computes a firm’s
value—also called its value—as the
sum of the value of its operating activities (Vopop) and the value
of firm’s nonoperating , where:
Which of the following statements about the FCF valuation model
are true? Check all that apply.
The model has limited applicability because it fails to adjust
for a firm’s riskiness—particularly that created by managers’
decisions to use debt in the firm’s capital structure, or decisions
regarding the payment of cash dividends.
A company’s FCFs are a function of how effectively managers
control the firm’s costs, manage its operating and nonoperating
assets, and generate sales revenues.
The FCF valuation model recognizes that a firm’s value is a
function of its risk—including its use of debt and equity financing
and the markets in which it operates.
The model is useful because it provides its decision-makers with
insights into the quality of their decision-making, as measured by
the intrinsic value of their company.
Consider the case of Soggy Otter Manufacturing:
Next year, Soggy Otter is expected to earn an EBIT of
$11,000,000, and to pay a federal-plus-state tax rate of 35%. It
also expects to make $2,750,000 in new capital expenditures to
support this level of business activity, as well as $10,000 in
additional net operating working capital (NOWC).
Given these expectations, it is reasonable to conclude that next
year Soggy Otter will generate an annual free cash flow (FCF)
of (rounded to the nearest whole
dollar).
Next, based on your estimate of Soggy Otter’s next year’s FCF
and making the stated assumptions, complete the following
table:
Attributes of Soggy Otter
Value
share of a company’s common stock. One method uses the free
cash flow (FCF) valuation model, while the another method uses
the dividend discount model.
The FCF valuation model computes a firm’s
value—also called its value—as the
sum of the value of its operating activities (Vopop) and the value
of firm’s nonoperating , where:
Which of the following statements about the FCF valuation model
are true? Check all that apply.
The model has limited applicability because it fails to adjust
for a firm’s riskiness—particularly that created by managers’
decisions to use debt in the firm’s capital structure, or decisions
regarding the payment of cash dividends.
A company’s FCFs are a function of how effectively managers
control the firm’s costs, manage its operating and nonoperating
assets, and generate sales revenues.
The FCF valuation model recognizes that a firm’s value is a
function of its risk—including its use of debt and equity financing
and the markets in which it operates.
The model is useful because it provides its decision-makers with
insights into the quality of their decision-making, as measured by
the intrinsic value of their company.
Consider the case of Soggy Otter Manufacturing:
Next year, Soggy Otter is expected to earn an EBIT of
$11,000,000, and to pay a federal-plus-state tax rate of 35%. It
also expects to make $2,750,000 in new capital expenditures to
support this level of business activity, as well as $10,000 in
additional net operating working capital (NOWC).
Given these expectations, it is reasonable to conclude that next
year Soggy Otter will generate an annual free cash flow (FCF)
of (rounded to the nearest whole
dollar).
Next, based on your estimate of Soggy Otter’s next year’s FCF
and making the stated assumptions, complete the following
table:
Attributes of Soggy Otter
Value