Chapter: 12 Corporate Valuation and Financial Planning

Problem: 10

Start with the partial model in the file Ch12 P10 Build a [Link] on the textbook’s Web site, which contains the 2016
financial statements of Zieber Corporation. Forecast Zeiber's 2017 income statement and balance sheets. Use the following
assumptions: (1) Sales grow by 6%. (2) The ratios of expenses to sales, depreciation to fixed assets, cash to sales,
accounts receivable to sales, and inventories to sales will be the same in 2017 as in 2016. (3) Zeiber will not issue any new
stock or new long-term bonds. (4) The interest rate is 11% for long-term debt and the interest expense on long-term debt is
based on the average balance during the year. (5) No interest is earned on cash. (6) Regular dividends grow at an 8% rate.
(6) Calculate the additional funds needed (AFN). If new financing is required, assume it will be raised by drawing on a line
of credit with an interest rate of 12%. Assume that any draw on the line of credit will be made on the last day of the year, so
there will be no additional interest expense for the new line of credit. If surplus funds are available, pay a special dividend.

Key Input Data: Used in the

forecast
Sales growth 6%
Tax rate 40%
Dividend growth rate 8%
Rate on notes payable-term debt, rstd 11%
Rate on long-term debt, rd 11%

a. What are the forecasted levels of the line of credit and special dividends? (Hints: Create a column showing the ratios for
the current year; then create a new column showing the ratios used in the forecast. Also, create a preliminary forecast that
doesn't include any new line of credit or special dividends. Identify the financing deficit or surplus in this preliminary
forecast and then add a new column that shows the final forecast that includes any new line of credit or special dividend.)

Begin by calculating the appropriate historical ratios in Column E. Then put these ratios and any other input ratios in
Column G.

Forecast the preliminary balance sheets and income statements in Column H. Don't include any line of credit or special
dividend in the preliminary forecast.

After completing the preliminary forecast of the balance sheets and income statement, go to the area below the preliminary
forecast and identify the financing deficit or surplus. Then use Excel's IF statements to specify the amount of any new line
of credit OR special dividend (you should not have a new line of credit AND a special dividend, only one or the other).

After specifying the amounts of the special dividend or line of credit, create a second column (I) for the final forecast next
to the column for the preliminary forecast (H). In this final forecast, be sure to include the effect of the special dividend or
line of credit.

Income Statements:
(December 31, in thousands of dollars) 2016
Historical 2017 Input
2016 ratios Forecasting basis ratios
Sales $455,150 6.00% Growth 6.0%
Expenses (excluding depr. & amort.) $386,878 85.0% % of sales 85.0%
Depreciation and Amortization $14,565 8.0% % of fixed assets 8.0%
EBIT $53,708
Interest expense on long-term debt $11,880 Interest rate x average debt during year
Interest expense on line of credit $0
EBT $41,828
Taxes (40%) $16,731

Net Income $25,097

Common dividends (regular dividends) $12,554 Growth 8.00%

Special dividends Zero in preliminary forecast
Addition to retained earnings $12,543

Balance Sheets
(December 31, in thousands of dollars) 2016
Historical 2017 Input
2016 ratios Forecasting basis ratios
Assets:
Cash $18,206 4.0% % of sales 4.00%
Accounts Receivable $100,133 22.0% % of sales 22.00%
Inventories $45,515 10.0% % of sales 10.00%
Total current assets $163,854
Fixed assets $182,060 40.0% % of sales 40.00%
Total assets $345,914

Liabilities and equity

Accounts payable $31,861 7.0% % of sales 7.00%
Accruals $27,309 6.0% % of sales 6.00%
notes payable $0 Zero in preliminary forecast
Total current liabilities $59,170
Long-term debt $120,000 Previous
Total liabilities $179,170
Common stock $60,000 Previous
Retained Earnings $106,745 Previous + Addition to retained earnings
Total common equity $166,745
Total liabilities and equity $345,914

Identify Financing Deficit or Surplus

Increase in spontaneous liabilities (accounts payable and accruals)

+ Increase in long-term bonds, preferred stock and common stock
+ Net income (in preliminary forecast) minus regular common dividends
Increase in financing

− Increase in total assets

Amount of financing deficit or surplus:
If deficit in financing (negative), show the amount for the line of credit
If surplus in financing (positive), show the amount of the special dividend
 hich contains the 2016
ce sheets. Use the following
sets, cash to sales,
iber will not issue any new
pense on long-term debt is
dends grow at an 8% rate.
aised by drawing on a line
the last day of the year, so
ble, pay a special dividend.

umn showing the ratios for

a preliminary forecast that
us in this preliminary
credit or special dividend.)

y other input ratios in

line of credit or special

area below the preliminary

he amount of any new line
only one or the other).

for the final forecast next

of the special dividend or

2017 Preliminary
forecast (doesn't
include special
dividend or LOC)
 $482,459
$410,090
$15,439
$56,930
$13,200
$0
$43,730
$17,492.06

$26,238

13558.32
$0
$12,680

2017 Preliminary
forecast (doesn't
include special
dividend or LOC)

$19,298
$106,141
$48,246
$173,685
$192,984
$366,669

$33,772
$28,948
$0
$62,720
$120,000
$182,720
$60,000
$119,424
$179,424
$362,144

$3,550
$0
$12,680
$16,230

$20,755
-$4,525
$4,525
$0
6.0%
3.0%
Chapter: 12 Corporate Valuation and Financial Planning
Problem: 11

The Henley Corporation is a privately held company specializing in lawn care products and services. The most
recent financial statements are shown below.

Income Statement for the Year Ending December 31 (Millions of Dollars)

2016
Net Sales $ 800.0
Costs (except depreciation) $ 576.0
Depreciation $ 60.0
Total operating costs $ 636.0
Earning before int. & tax $ 164.0
Less interest $ 32.0
Earning before taxes $ 132.0
Taxes (40%) $ 52.8
Net income before pref. div. $ 79.2
Preferred div. $ 1.4
Net income avail. for com. div. $ 77.9
Common dividends $ 31.1
Addition to retained earnings $ 46.7

Number of shares (in millions) 10

Dividends per share $ 3.11

Balance Sheets for December 31 (Millions of Dollars)

Assets 2016 Liabilities and Equity
Cash $ 8.0 Accounts Payable
Marketable Securities 20.0 Notes payable
Accounts receivable 80.0 Accruals
Inventories 160.0 Total current liabilities
Total current assets $ 268.0 Long-term bonds
Net plant and equipment 600.0 Preferred stock
Common Stock
Total Assets $ 868.0 (Par plus PIC)
Retained earnings
Common equity
Total liabilities and equity

Projected ratios and selected information for the current and projected years are shown below.

Inputs Actual Projected Projected Projected

2016 2017 2018 2019
Sales Growth Rate 15% 10% 6%
Costs / Sales 72% 72% 72% 72%
Depreciation / Net PPE 10% 10% 10% 10%
Cash / Sales 1% 1% 1% 1%
Acct. Rec. / Sales 10% 10% 10% 10%
Inventories / Sales 20% 20% 20% 20%
Net PPE / Sales 75% 75% 75% 75%
Acct. Pay. / Sales 2% 2% 2% 2%
Accruals / Sales 5% 5% 5% 5%
Tax rate 40% 40% 40% 40%
Weighted average cost of capital (WACC) 10.5% 10.5% 10.5% 10.5%

a. Forecast the parts of the income statement and balance sheets necessary to calculate free cash flow.

Partial Income Statement for the Year Ending December 31 (Millions of Dollars)
Actual Projected Projected Projected
2016 2017 2018 2019
Net Sales $ 800.0 $ 920.0 $ 1,012.0 $ 1,072.7
Costs (except depreciation) $ 576.0 $ 662.4 $ 728.6 $ 772.4
Depreciation $ 60.0 $ 69.0 $ 75.9 $ 80.5
Total operating costs $ 636.0 $ 731.4 $ 804.5 $ 852.8
Earning before int. & tax $ 164.0 $ 188.6 $ 207.5 $ 219.9

Partial Balance Sheets for December 31 (Millions of Dollars)

Actual Projected Projected Projected
Operating Assets 2016 2017 2018 2019
Cash $ 8.0 $ 9.2 $ 10.1 $ 10.7
Accounts receivable $ 80.0 $ 92.0 $ 101.2 $ 107.3
Inventories $ 160.0 $ 184.0 $ 202.4 $ 214.5
Net plant and equipment $ 600.0 $ 690.0 $ 759.0 $ 804.5

Operating Liabilities
Accounts Payable $ 16.0 $ 18.4 $ 20.2 $ 21.5
Accruals $ 40.0 $ 46.0 $ 50.6 $ 53.6

b. Calculate free cash flow for each projected year. Also calculate the growth rates of free cash flow each
year to ensure that there is constant growth (i.e., the same as the constant growth rate in sales) by the end of
the forecast period.
Actual Projected Projected Projected
Calculation of FCF 2016 2017 2018 2019
Operating current assets 248.0 285.2 313.7 332.5
Operating current liabilities 56.0 64.4 70.8 75.1
Net operating working capital 192.0 220.8 242.9 257.5
Net PPE 600.0 690.0 759.0 804.5
Net operating capital 792.0 910.8 1,001.9 1,062.0
NOPAT 98.4 113.2 124.5 131.9
Investment in operating capital na 118.8 91.1 60.1
Free cash flow na (5.6) 33.4 71.8
Growth in FCF na na -692.1% 115.1%
Growth in sales 15.0% 10.0% 6.0%
Sales Growth rate 0.15 0.10 0.06

c. Calculate operating profitability (OP=NOPAT/Sales), capital requirements (CR=Operating capital/Sales), and

return on invested capital (ROIC=NOPAT/Operating capital at beginning of year). Based on the spread
between ROIC and WACC, do you think that the company will have a positive market value added (MVA=
Market value of company - book value of company = Value of operations - Operating capital)?

Actual Projected Projected Projected

2016 2017 2018 2019
Operating profitability
(OP=NOPAT/Sales) 12.3% 12.3% 12.3% 12.3%
Capital requirement
(CR=Operating capital/Sales) 99.0% 99.0% 99.0% 99.0%
Return on invested capital
(ROIC=NOPAT/Operating capital at
start of year) na 14.3% 13.7% 13.2%
Weighted average cost of capital (WACC) na 10.5% 10.5% 10.5%
Spread between ROIC and WACC na 3.8% 3.2% 2.7%

d. Calculate the value of operations and MVA. (Hint: first calculate the horizon value at the end of the forecast
period, which is equal to the value of operations at the end of the forecast period. Assume that the annual
growth rate beyond the horizon is 6 percent.)

Actual Projected Projected Projected

2016 2017 2018 2019
Free cash flow (5.6) 33.4 71.8
Long-term constant growth in FCF
Weighted average cost of capital (WACC) 10.5% 10.5% 10.5% 10.5%
Horizon value
Timeline - 1.0 2.0 3.00
FCF in Years 1-3 and FCF4 + horizon value in Year 4 (5.64) 33.40 71.83
(5.10) 27.35 53.24

Value of operations (PV of FCF + HV) 1,329.6

Operating capital 792.0

Market value added (MVA=Market value of

company - book value of company = Value of
operations - Operating capital) 537.6

e. Calculate the price per share of common equity as of 12/31/2016.

 Actual
2016
Value of Operations 1,329.6
Plus Value of Mkt. Sec. 20.0
Total Value of Company 1,349.6
Less Value of Debt 340.0
Less Value of Pref. 15.0
Value of Common Equity 994.6
Divided by number of shares 10
Price per share 99.5

If company is trading below the intrinsic value of 99.5 then this stock is undervalued and is a good buy
If company is trading abovethe intrinsic value of 99.5 then this stock is overvaluedvalued and is a good sell
and services. The most

2016
$ 16.0
40.0
40.0
$ 96.0
$ 300.0
$ 15.0

$ 257.0
200.0
$ 457.0
$ 868.0

below.

Projected
2020
 6%
72%
10%
1%
10%
20%
75%
2%
5%
40%
10.5%

e free cash flow.

Projected
2020
$ 1,137.1
$ 818.7
$ 85.3
$ 904.0
$ 233.1

Projected
2020
$ 11.4
$ 113.7
$ 227.4
$ 852.8

$ 22.7
$ 56.9

ree cash flow each

n sales) by the end of

Projected
2020
352.5
79.6
272.9
852.8
1,125.7
139.9
 63.7
76.1
6.0%
6.0%
0.06

ting capital/Sales), and

on the spread
ue added (MVA=
pital)?

Projected
2020

12.3%

99.0%

13.2%
10.5%
2.7%

the end of the forecast

me that the annual

Projected
2020
76.1
6.000%
10.5%
1,793.6
4.0
1,869.7
51.07
1,203.0
1,329.6