Spring 1999

Problem 1
VS = AT Operating Margin * (1- Reinvestment Rate) * (1 + g)/(WACC - g)
Reinvestment Rate = g / ROC = g / (AT Operating Margin * Sales/Capital)
Let the margin for Generic Office be x,
VS for Generic Office = 1.5 = x (1-.05/2x)(1.05)/(.10-.05)
Solve for x,
x = (1.5*.05+(.05/2)*1.05)/1.05
x= 9.64%
HK's after-tax operating margin = 9.64% (1.05) = 10.13% ! I also gave full credit if you added 5% to get 14.64%
HK's VS ratio =.1013 (1-.05/2*.1013)(1.05)/(.10-.05) = 1.6023 ! Note that if you do not adjust the re
get 1.575.
Problem 2
a. Value of Developed Reserves = 100,000 * (300-200) * (PV of Annuity, 5 years, 9%) = $ 38,896,513
b. Value of Undeveloped Reserves (on DCF basis)
Value of oil in the ground = 40,000 * (300-200) * (PV of Annuity, 9%, 12.5 years) = $ 29,309,310.89 ! 40000 barrels a year for 12.5 years
Value of oil in the ground allowing for development lag = 29,309,311/1.08 = $ 27,138,250.82
Fixed cost of development = $ 50,000,000.00
DCF Value of Undeveloped reserves = $(22,861,749.18)
I also gave full credit for a number of variations, including
a. Assuming that costs and prices are in present value dollars, in which case the value of reserves is [500000*(300-200)]/1.08 = 46,296,296
c. Inputs for Option Pricing Model
y = Annual Production Revenue/Reserves = 40,000/500,000 = 8.00%! Many of you used 1/15. You actuall
your production potential is much high
S = PV of reserves discounted back by development lag = $ 27,138,251 ! Full credit also for $ 46,296,296
K = Upfront Cost of Developing Reserves = $ 50,000,000
t = Period for which firm has rights = 15
Variance = Expected variance in ln(gold prices) = 0.09 ! Use forward looking variance
r = Riskfree rate = 6.00%

d. The developed reserves will become less valuable, since oil prices are down.
The undeveloped reserves may become more or less valuale depending upon whether the effect of S or the effect of variance is greater on the option value.

Spring 2000
Problem 1
Adjusted EBIT = 1500- 100 = 1400
Adjusted EBIT (1-t) = 840
- Reinvestment = 336
FCFF 504 Tax rate = 480/1200 = 40% (Do not d
will result in a double counting of the
Total Beta = 0.80/0.5 = 1.6 which is already being counted in the c
Levered beta = 1.6 (1 + (1-.4)(3/7)) = 2.011428571429
Cost of Equity = 6% + 2.01 (4%) = 14.04% Use total beta rather than illiquidity
Cost of Capital = 14.04% (.7) + 7% (1-.4)(.3) = 11.09% insufficient information for such a dis

Value of private firm = 504 (1.05)/(.1109-.05) = $ 8,692.51

Problem 2
Present Value of FCFF from developed reserves = 300 (PVA,10 years, 9.375%) = $ 1,894
Cost of Capital = 12%(25/40) + 5% (15/40) = 9.38%
Value of undeveloped reserves = 4000 - 1894 = $ 2,106 ! Do not subtract from the value of equity.

Problem 3
d1 = -0.15 N(d1) = 0.4404
d2= -0.90 N(d2) = 0.1841

Value of Equity = 400 (.4404) - 800 exp (-.06*6) (.1841) = $ 73.41

Value of Debt = 400 - 73.41 $ 326.59
Interest rate on debt = (800/326.59)^(1/6) - 1 = 16.08%
Default spread on debt = 16.08% - 6% = 10.08%

Spring 2002
Problem 1
BigName NoName Brand Name
After-tax Margin 12% 6% ! ROC = After-tax operating margin * Sales/BV of capital
Sales/ Capital 2 2 ! Reinvestment rate = g/ ROC
ROC 24.00% 12.00%
Reinvestment rate 16.67% 33.33%
Value/Sales 2.08 0.832
Value 10.4 4.16 6.24

Problem 2
Net Income 2 ! Remember to subtract after-tax expense
ROE 20.00%
Total Beta 2.75
PBV = 1.94
MV of Equity = 19.4

Problem 3
S= 106.698524
K= 131.698524
t= 12
Variance = 0.0225
Riskless rate = 5%
cost of delay= 0.083333333 ! I think you can also make a reasonable
that competition would kick in after the 8
! In fact, you can even make a reasonable
0 and want to justify it, give me your re

Fall 2002
Problem 1
First, clean up the market value of equity for the cross holdin
Total market value of equity = 3000 ! 150 *20
- Value of equity in Coleman Ho 500 ! 20% of 2500
- Value of equity in Silicon Tech 1200 ! 60% of 2000
Value of Equity in Steel business 1300

Next clean up the debt for the consolidated debt from Silicon
Value of debt = 2000
- Value of Debt in Silicon Tech = 500 ! Silicon Tech's debt is consolidated in balance sheet
Value of debt in Steel business = 1500

Finally, clean up the EBITDA

Consolidated EBITDA = 700
- EBITDA of Silicon Tech = 300
EBITDA of Steel Business = 400

EV of Steel Business = 2800

EV/ EBITDA of Steel Business = 7.00

Problem 2
a. Estimated PS in year 5 = 3.5 ! Net margin = 10%; 1.5 + .2 (10) = 3.5
Estimated Equity value in yea 1750 ! 3.5 * 500
b. Total beta = 2.25
Cost of equity = 14.00%
c. Value of equity today (going $908.90 ! 1750/1.14^5
Survival adjusted equity value $363.56 ! 908.90 * .40

Spring 2003
Problem 1
a. Unlevered beta = 1
Total beta = 2.5
Cost of equity = 15.00% ! Use total beta because buyer is not diversified
Return on capital = 0.175 ! 280/1600
Reinvestment rate = 0.228571429 !4%/17.5%

EBIT (1-t) $280.00

- Reinvestment $64.00 ! 22.86% of EBIT (1-t)
FCFF $216.00

Value of firm = $2,042.18 ! 224 (1.04)/(.15-.04)

b. Unlevered beta = 1 ! IPO valuation: use market beta

Cost of equity = 9.00%
Return on capital= 0.15 ! Using reestimated return on capital
Reinvestment rate = 0.266666667 ! 3.5%/15%
EBIT (1-t) $240.00 ! Reestimate operating income with 40% tax rate
- Reinvestment $64.00 ! 23.33% of 240
FCFF $176.00

Value of firm = $3,660.80 ! 176 (1.04)/(.09-.04)

c. There should be an illiquidity discount in the private transa

Problem 2
Part a
Value of commercial product = $88.63
Value of R&D = $45.00
Total = $133.63

Market value of firm = $240.00

Value of patent = $106.37

Part b
If the firm develops the patent today, you will replace the op
NPV = $49.39
Change in value = -$56.98 ! 49.39 - 106.37
New firm value = $183.02 ! 240 - 56.98

Fall 2003
Problem 1
a. Intrinsic price to book ratio = 0.833333333 ! (ROE - g)/ (COE -g); ROE =8%, Cost of equity = 5+4% = 9%)
Stock is undervalued slightly.
b. if the market is correct
Price to book ratio = .8 = (.08-.03)/(r-.03)
Solving for r, Cost of equity = 9.25%

Problem 2
Levered beta =
EV/Sales based upon regression
Actual EV/Sales ratio =
Stock is overvalued by
1.56
2.028 ! 0.30 + .08 (15/100) - 1.2 (1.56) + .12 (20)
2.5 ! (200 + 100 -50)/100
23.27% ! Divided the actual by the expected value ! You cannot compare the predicted value to the average for the sec

Problem 3
Total beta = 3 ! Sale in a private transaction. Divided beta by correlation.
Cost of equity = 17.00% ! 5% + 3*4%
Reinvestment rate = 0.4 ! G/ROC = 4%/10%
Status quo value of firm = 6.923076923 ! 1.5 (1-.4)/(.17-.04); I don't need a (1+g) because 1.5 is next year's income
Value of 25% stake in firm = 1.730769231

With a doubled return on capital

Reinvestment rate = 0.2 ! Doubled return on capital only on new investments. So existing operating income unaffected
Optimal firm value = 9.230769231 ! 1.5 (1-.2)/(.17-.04)
Value of 51% stake in firm = 4.707692308

For IPO valuation

Market beta = 0.9
Cost of equity = 8.600% Since this is an IPO valuation, you have to revalue the company with a market beta.
Status quo value = $19.57 ! 1.5 (1-.4)/(.086-.04)
Optimal firm value = $26.09 ! 1.5 (1-.2)/(.086-.04)
Value per non- voting share = $4.89
Value per voting share = $5.54 !4.89+.2(26.09-19.57)/2

Spring 2004
Problem 1
Gloria Inc. Generic Brand Name Value
After-tax Operating Margin 0.15 0.075
Return on Capital 0.25 0.125
Reinvestment Rate 0.2 0.4
EV/Sales 2.4 0.9
Enterprise Value 2400 900 1500
Problem 2
Cost of equity = 10.0% ! Use market beta since this is for initial public offering
Part a. Under existing management
EBIT (1-t) 5
Return on capital = 0.1
Reinvestment Rate = 0.4 ! 4./10
Value of firm = 50 ! No surprise here. If you earn your cost of capital, MV = BV

Part b. Under new management

EBIT (1-t) $6.50
Return on capital = 13.00%
Reinvestment Rate = 30.77% ! 4/13
Value of firm = $75.00

Value of control = $5.00 ! (100 - 75) *.20

Value per non-voting share = $10.00 ! Divide status quo value by total number of shares
Value per voting share = $12.50 ! Add Value of control/ Number of voting shares

Fall 2004
Problem 1
EV/Sales = After-tax operating margin ( 1- g/ ROC)/ (Cost of capital - g)
1.20 = .10 (1 -.04/ ROC)/ (.09 - .04) ! There are other ways to get to the same solution. You could set up firm value
Solving for return on capital, we get 3000 = 250 (1-.04/ROC)/ (.09-.04)
Return on capital = 10.00% ! While technically you do not need a (1+g) in the numerator since I have given you next year's operating inc
I did give full credit to those who used it.
Problem 2
Bank PBV ROE
Hibernia Bank 1.25 16%
Bancomer 1.1 14%
North Fork Bank 0.9 12%
North Fork Bank is the most
undervalued bank…..

If we use the regression, PBV Predicted PBV

Hibernia Bank 1.25 1.2 Overvalued
Bancomer 1.1 1.1 Correctly valued
North Fork Bank 0.9 1 Under valued
b. Low Price to book, high ROE, low risk, high growth

Problem 3
Corrected income = $300,000.00 ! Subtracted out rent (75,000), accounting expense (25,000) and dental salary of 150,000.
After-tax income= $180,000.00 Why subtract out the dentist salary? If you don't, you will be paying a premium to the owner of the
practice for something that does not belong to him. Another way to think of this is as a pure
Total beta = 2.4 ! 0.80*3 business. You could be a non-dentist, buy this business and hire a dentist to work for you for 150,000…..
Cost of equity = 13.85%
! On the total beta calculation, I did give full credit if you assumed that the R squared was 33% and took the s
Value of practice = ###

Spring 2005
Problem 1
a. Tax Rate: The higher the tax rate, the lower the EV/EBITDA multiple should be (not higher)
b.
EV/EBITDA = 2.26 + .1513 (Tax Rate) + .2156 (Return on Capital) – .1335 ! You cannot change the sign on a regression coefficient i
EV/EBITDA = 7.9059

Problem 2
Market value fo equity = 1800
Net Income next year = 1500

MV of Equity/ Forward Earnings = 1.2 ! 1800/1500

PE =1.2 = Payout Ratio / (.10 - .04) ! Cost of equity = 10%; Growth rate = 4%
Payout ratio = 7.20%
Return on equity = g/ (1- Payout ratio) = 4.31% ! Loser company but dem's the breaks…

Problem 3
Total Beta = 1.2/.4 = 3 ! Market beta/ Square root of R squared
Cost of equity = 5% + 3*4% = 17.00%
Reinvestment rate = 0.25 ! G/ ROC
Value of firm = $66.21

Cost of equity to publicly traded firm = 0.098 ! Investors in publicly traded firm are diversified.
new return on capital = 0.18 ! I also gave full credit if you adjusted the growth rate upwards to 4.5%
New reinvestment rate = 0.16666667
Value of firm = 151.470588 ! Only the growth rate or reinvestment rate will be affected….
Value of 51% = 77.25 Existing operating income remains unchanged.
Fall 2007
Problem 1
Enterprise value = Equity + Debt - Cash
2500
EV/Sales = 1.25 ! 2500/2000

b. Estimated ROC = 0.075 ! Assumed book equity = 1000

b. If the market value is right, ! The book value of capital was missing on this problem. So, I gave f
EV/Sales = Expected operating margin next year/(1-RIR) (Cost of capital -g) value of capital that was rasonable. The solution assumes that the b
1.25 = 0.075(1- .03/.075)/ (Cost of capital - .03) ! After-tax Margin = 150/2000 is $ 1 billion and the book value of capital is $ 2 billion.
Solving for the cost of capital,
Cost of capital = 6.60% ! If you assume a 5% return on capital, this number will be lower (5.4%)

Problem 2
Market value of equity of parent company = 650 ! 1000*10 - 0.1*500 -0.75*400 ! Did not net out cash of consolidated su
Debt of parent company = 300 ! 500 -200 ! Got parent EBITDA incorrect: -0.5 to -1
Cash of parent company = 50 ! 150 - 100 ! Other computational errors: -0.5 point
Enterprise value of parent company = 900
EBITDA of parent company = 150 ! 250 -100
EV/EBITDA for parent company = 6 ! 900/150

Problem 3
C. Best combination: Low P/BV, Low risk, High growth, High ROE ! One point for D and F. They were close but failed one one dimensio

b. Expected price to book for company A = 0.8 ! Mechanical errors: -0.5 point
Actual price to book ratio = 1.25
Company is overvalued by apprroximately 36.00%

c.
PBV of C = 1.2 = 0.80 + 0.75 X - 0.5 (1) ! Used intrinsic equation: -1 point
Solving for X ! Set up equation in way to make solution impossible: -1 point
ROE for company C would have to be 12% ! Mechanical erorrs: -0.5 point
The ROE would have to be approximately 12%… it is actually 20%

Fall 2008
Problem 1
Current price to book ratio = 1.5 Used wrong cost of equity: -0.5 point
Current cost of equity = 9% Math error: -0.5 point each
Expected growth rate= 3%
PBV = 1.5 = (ROE -g)/ (Cost of equity -g)
1.5 = (ROE -.03)/ (.09-.03)
ROE = 12%

b. New ROE incorrect: -1 point

Book equity increases by = 20% New cost of equity incorrect: -1 point
New return on equity = 10.00% ! Old ROE/ (1 + Capital increase)
New cost of equity= 11% ! Riskfree rate + New ERP
New price to book ratio = 0.875 ! (10%-3%)/(11%-3%)

Problem 2
Company Primary sharesPrice/Share Net Income # Options Value/option
Zap Tech 100 $20 $100 10 $10 Using regular PE completely misses the options oustanding: -2 point
InfoRock 500 $6 $150 80 $1.50 Using diluted PE treats all options as equal: -1 point
Lo Software 80 $5 $20 20 $0.50

Market Cap Net Income PE Ratio Diluted EPS Diluted PE Total Equity VModified PE
Zap Tech $2,000 $100.00 20.00 $0.91 22.00 $2,100 21.00
InfoRock $3,000 $150.00 20.00 $0.26 23.20 $3,120 20.80
Lo Software $400 $20.00 20.00 $0.20 25.00 $410 20.50
Lo Software is the cheapest stock. It's modified PE ratio is the lowest.

Problem 3
Value of private firm = 2000 Used EBIT (1-t) as FCFF: -1 point
EBIT (1-t) next year = 300 Reinvestment rate wrong: -0.5 point
Reinvestment rate = 20% ! g/ ROC = 3/15 = 20% Math errors: -0.5 point each
FCFF next year = 240

To solve for the cost of equtiyt used: ! Market beta computation wrong: -1 point
Value of firm = 2000 = 240/ (r - .03)
Cost of capital = Cost of equity = 15%
Cost of equity = 15% = 4% + Beta (5%)
Total beta used = 2.2
Market beta = 1.1 ! Total beta * Correlation with the market
Cost of equity = 4% +1.1*5% = 9.50%
Correct value of the firm = 3692.307692 ! 240/ (.095-.03)

Fall 2009
Problem 1
Part a
Return on capital = 0.15 ! Aftertax operating margin* Sales/Bv oF Capital !Did not compute return on capital: -1 point
Reinvestment Rate = 0.2 ! g/ ROC ! Math errors: -1/2 point
EV/Sales Ratio = 1.333333333 ! AT Oprating Margin (1-RIR)/ (Cost of capital -g)
Part b
New Return on Capital = 0.16 ! 0.08 *(1.5*1.3333) ! Did not recompute sales/cap ratio: -1/2 poitn
Reivestment Rate = 0.1875 ! Did not recompute value: -1/2 point
EV/Sales Ratio = 1.083333333
New EV = 1.444440833 ! Remember that revenues are higher by 33.33%
Value of the firm increaases by about 8.33%

Problem 2
SunTrust SouthEast ! Wrong cost of equity: -1 point
Market value of equity $150.00 $100.00 1 Did not compare to actual P/BV: -0.5 point
Book Value of equity $90.00 $80.00
Expected Net income next year $18.00 $12.00
P/BV 1.666666667 1.25
ROE 20.00% 0.15

If SunTrust Bank is fairly valued,

P/BV = 1.6667 = (.20-.03)/(Cost of equity -.03)
Cost of equity = 0.132

Valuing SouthEast Bank with this cost of equity

Intrinsic P/BV = 1.17647059
Actual P/BV = 1.25
Overvalued by 6.25%

Problem 3
Expected EBIT(1-t) 170 ! 200 - 50 (1-.4) ! After-tax operating income wrong: -1 point
Reinvestment rate = 0% ! Because growth is zero ! Did not compute correct cost of equity: -1 point
Value to undiversifed investor = 850 ! Did not adjust for market beta: -1 point
Cost of equity to undiversified in 20.00%
Impliws Total Beta = 2.666666667
Correlation with the market = 40%
Market beta = 1.066666667
Cost of equity = 10.400%
Value of business = 1634.615385

Fall 2010
Problem 1
Current EV/Sales Ratio = 1.7 ! Ignored reinvestment rate = -1 point
Reinvestment Rate= 0.15 ! Growth rate/ ROC 1 Math errors: -0.5 point each
EV/Sales = After-tax margin (1-RIR)/ (Cost of capital -g)
1.7 = After-tax margin (1-.15)/(.09-.03)
After-tax margin = 12.00%

After-tax margin (Generic) = 6.00% ! Did not recompute return on captial: -1 point
Current sales/capital = 1.67 ! ROC/After-tax margin of Slim Joe's ! Math errors: -0.5 point each
Return on capital (Generic) = 10.00%
Reinvestment rate = 0.3
EV/Sales ratio 0.70

Problem 2
Lugano Stulz
Market value of equity 9000 13000 ! EV computed incorrectly: -0.5 to -1.5 points
Book value of equity 4000 6000 ! EBITDA computed incorrectly: -0.5 to -1 point
+ Market value of debt 5000 5000 ! Did not consider ROC or tax rate in making judgment: -0.5 point
Book value of debt 4500 4500
- Cash 1500 2000
- Market value of minority holdi 1500 1000
Book value of minority holdings 500 500
+ Market value of minority inter 1000 3000
Book value of minority interests 400 1000
Tax rate 40% 20%
Net Income 600 1200
Interest expenses 500 500
EBIT 1500 2000 ! Net Income/ (1-t) + Interest expenses
DA 500 1000

EV = 12000 18000 ! MV Equity + MV Debt - Cash - MV Minority Holdings + MV Minority Interests

EBITDA 2000 3000 ! EBIT +DA
EV/Ebitda 6.00 6.00
ROC= 12.86% 18.82%
Since Stulz has a hgher ROC, lower tax rate and trades at the same multiple, it is cheaper.

Problem 3
PBV = (ROE-g)/(Cost of equity -g)
For publicly traded firms
1.6 = (.12-.04)/ (Cost of equity -.04)
Cost of equity = 0.09
Given riskfree rate = 4% and ERP =5% ! Did not solve correctly for beta: -1 point
Beta = 1 ! No total beta computation: -1 point
Total beta = 2.5 ! Beta/ 0.4 ! Math errors: -0.5 point each
Cost of equity = 16.50%

PBV ratio of Seacrest = 1.28

Fall 2011
Problem 1
a. Intrinsic PE = 0.60/(.08-.02) 10 ! All or nothing (Ok if you use (1+g) and get 10.2…)
b.
Estimated value for equity = 1000
- Value of options 50 ! 10*5 !Used diluted number of shares = -1.5
Value of equity in common stock 950 !Did not subtract out value of options = -1 point
Value per share 9.5 ! 950/100 ! Did not divide by actual number of shares: -1 point

Problem 2 KMD RAD holdings KMD just steel ! EBITDA for steel business wrong: -1 point
Value of equity = 9000 3000 6000 ! Net out 60% of market value of RAD ! Equity value of steel business wrong: -1 point
Debt 5000 3000 2000 ! Added minority interest or subracted it : -1 point
Cash 2000 1000 1000 ! Other errors: -0.5 point each
EBITDA 2100 700 1400

Enterprise Value 7000

EV/ EBITDA 5
The steel business is fairly valued.

Problem 3
Corrected after-tax EBIT 50 ! Did not adjust margin correctly = -1 point
After-tax Operating margin = 0.05 ! Did not get total beta = -1 point
Total Beta = 3 ! 1.2/0.4 ! Other errors: -0.5 to -1 point
Expected growth = 0.1
Estimated EV/Sales = 0.5
Estimated EV = 500

Fall 2012
Problem 1
Business EBIT DA Invested CapiMedian EV/EBITDA for sector
Real estate $150 $50 $500 $6
Travel $35 $5 $240 $10
Spa services $100 $20 $600 Not available

a. Grading template
Market value of equity = 2200 ! Did not compute current EV correctly: -0.5 point
 + Debt 800 ! Did not compute EV of businesses correctly: -0.5 point
- Cash 500
Enterprise value = 2500
- EV of real estate 1200
- EV of Travel 400
EV of Spa Services 900
EBITDA of Spa Services 120
EV/EBITDA 7.5

b.
Cost of capital = 8% ! Return on capital incorrect: -0.5 point
Expected growth rate = 2% ! Ignored reinvestment: -1 point
Return on capital = 10% ! 100 (1-.4)/600 ! Other errors: -0.5 point each
Reinvestment rate = 20.0%
Intrinsic EV = 816 ! Gave full credit if you got 800 (no (1+g)
Intrinsic EV/EBITDA = 6.8
The business is overvalued at 7.5 times EBITDA

Problem 2
With patent Without patent
Operating margin 15% 7.50% ! Did not back out margin from existing EV/Sales: -1 point
Return on capital 25% 10% ! Did not compute reinvestment: -1 point
Expected growth rate 3% 3% ! Other errors: -0.5 point each
Cost of capital 9% 10%
EV/Sales 2.2 0.75
To solve for the current after-tax margin,
EV/Sales = 2.2 = After-tax margin (1- .03/.25)/(.09-.03)
After-tax operating margin = 15.00%

Problem 3
Forward PE ratio for public firms
Cost of equity of public firms =
Expected growth rate =
Implied ROE =
12.5 ! Did not back out implied ROE correctly: -1 point
9.00% ! 3% + 1 (6%) ! Did not compute total beta: -1 point
3.00% ! Did not compute reinvestment: -1 point
12.00% ! 12.5 = (1- .03/ROE)/ (.09-.03) ! Other math errors: -0.5 point

To value private firm

Total beta = 3.333333333 ! 1/.30, since buyer is undiversified
Cost of equity = 23.00%
ROE = 0.24 ! Twice public company ROE
Expected growth rate= 3%
Reinvestment rate = 0.125
PE = 4.375
Value of equity = $87.50 ! 20*4.375

Spring 2013
Problem 1
Sales EBITDA EBIT Net Income BV of equity BV of Debt Cash Cost of equity Cost of capital
Farm Equipment $10,000 $1,500 $1,000 $400 $3,000 $2,000 $500 9% 7.50%
Financing $2,000 $650 $650 $100 $1,000 $3,000 $500 8% 6.20%
Entire firm $12,000 $2,150 $1,650 $500 $4,000 $5,000 $1,000 8.80% 7.00%
For farm equipment business
Return on capital = 13.33% Grading template
Expected growth rate = 3% 1. Used pre-tax return on capital: -1/2 point (Gave full credit if you did not net out cash)
EV/EBITDA = 5.909833333 2. Math error on regression equation: -1/2 point
EV = $8,864.75 3. Incorrect ROE: -1/2 point
4. Math error on regression equation: -1/2 point
For financial service arm 5. Used wrong cash in equity value computation: -1/2 point
Return on equity = 10.00% 6. Used wrong debt in equity value computation: -1/2 point
Expected growth rate = 3%
PBV ratio = 1.2
Estimated value of equity= $1,200

Overall equity value

EV of farm equipment = $8,864.75
+ Cash $500
- Debt $2,000
Value of equity in farm equipme $7,364.75
+ Value of equity in financing a $1,200
Value of equity in firm $8,564.75
Value per share $10.71

Problem 2
ROE = 12.50% 1. Did not set up to solve for ROE : -1 point
Cost of equity = 10% 2. Did not correct for BV of equity change: -1 point
Stable growth rate = 2.50% 3. Math errors: -0.5 point each

Trading PBV= 0.9 (I gave full credit even if you read the question as 90% of intrinsic value.
If PBV = 0.90 = (ROE - .025)/(.10-.025) The PBV ratio then becomes 1.33*0.9 = 1.197
Imputed ROE = 9.25% The increase in invested capital is smaller then, about 8.7%
Increase in BV of equity = 35.14%

Problem 3
1 2 3 4 5 1. Did not compute correct costs of equity: -1 point
Revenues $5.00 $7.50 $10.00 $12.00 $12.50 2. Did not use compounded cost of equity: -1/2 point
After-tax operating income $2.50 $0.75 $1.25 $1.80 $2.00 3. Terminal value wrong: -1/2 point
FCFF $0.05 $0.25 $0.50 $0.90 $1.20
Terminal value $21.46
Beta 3 3 2 2 1.2
Cost of equity 21.00% 21.00% 15.00% 15.00% 15.00% 10.20% 1. Did not compute correct cost of equity: -1 point
Cumulated cost of equity 1.2100 1.4641 1.683715 1.93627225 2.22671309 2. Did not compute change in value: -1 point
PV $0.04 $0.17 $0.30 $0.46 $10.18 3. Math errors: -1/2 point
Value of firm/equity $11.15

Part b
Cost of equity 10.20% 10.20% 10.20% 10.20% 10.20%
PV $0.05 $0.21 $0.37 $0.61 $13.94
Value of firm/equity $15.18
Offering price $14.00
Value gained $1.18

Fall 2013
Problem 1
Market value of equity = 1000
Market value of debt = 250
Debt to capital ratio = 20%
Cost of capital = 9.00%

EV/Invested Capital = 1.25 ! EV to Inv Cap ratio wrong: -0.5 point

Expected growth rate = 3% ! Equation for EV/Inv Cap wrong: -1 point
Return on capital = 10.500% EV/IC = (ROC -g)/ (Cost of capital -g) ! Other math errors: -0.5 point

If the firm earns its return on capital

EV/Invested Capital = 1 ! Error on estimated EV: -0.5 point
Estimated EV = 1000 ! Did not subtract out debt: -0.5 point
 - Market value of debt = 250 (Computed percentage under or over pricing on Enterprise value)
Value of equity = 750 Many of you compared the enterprise value of 1250 to the estimated EV of 1000, but
Equity is overvalued by (1000-750)/750 = 33.33% you need to subtract out debt.

Problem 2
Return on equity = 12.50%
Market value of equity = 6000
Book value of equity = 4000
PBV ratio = 1.5
! ROE incorrect: -0.5 point
PBV =0.145+7 (.125)+6*X ! PBV equation set up incorrectly: -0.5 point
Solving for X ! Error on backing out ratio: -.5 point
Reg Cap/ Risk Adj Assets = 0.08
Risk adjusted assets = 50000

After sale of mortgage bank

Net Income 300 ! Did not adjust net income: -0.5 point
Book value of equity = 2000 ! Did not adjust book value of equity: -1 point
Return on equity = 0.15 ! Did not adjustt risk adjusted assets: -0.5 point
Risk adjusted assets 20000 ! Did not estimate new market value of equity: -1 point
Reg Cap/ Risk adj assets 0.1
Price to Book ratio = 1.795
Market value of equity = 3590
Value per share = $11.97

Problem 3
Expected CF next year = 10 ! Did not estimate back out cost of capital: -1 point
VC's value for the firm = 100 ! Error on getting VC beta: -1 point
Expected growth rate = 3% ! Error on computing new market beta: -1 point
Imputed cost of capital = 13%
Imputed Beta (for VC) = 2
Market Beta = 1.2
Cost of capital = 9.00%
Value of firm in IPO = $166.67

Fall 2014
Problem 1
Step 1: Compute the cost of capital for generic snack companies
EV/Sales = 1.8
Return on capital = 12.00% ! After-tax Operating Margin * Sales/Capital
Reinvestment Rate = 25.00% ! g/ ROC
EV/Sales = After-tax Operating Margin * (1-Reinvestment Rate)/ (Cost of capital -g)
1.80 = .08 (1-.25)/(Cost of capital -.03)
Cost of capital = 6.33%
Step 2: Compute the EV/Sales ratio for Moana Foods
After-tax operating margin 16.00%
Return on capital = 24.00%
Reinvestment Rate = 12.500%
EV/Sales = 4.20
Step 3: Compute the proportion due to brand name value
EV/Sales (Generic) = 1.8
EV/Sales (Moana Foods) = 4.20
Brand name effect = 2.4
Brand name % of value = 57.14%

Problem 2
Next year's Expected
Revenues EBITDA
Best-fit regression
growth (using comparable companies in sector)
Technology $1,000 $400 15.00% EV/Sales = 1.25 + .5(EBITDA/Revenues) + 12.0 (Expected Growth Rate)
Hotels $2,000 $200 4.00% EV/EBITDA= 3.30 +42.5(EBITDA/Revenues) + 30.0 (Expected Growth Rate)
Corporate Expenses $0 $150 2.50%

Predicted EV/Sales for technology = 3.25

Predicted EV/EBITDA for hotels = 8.75

Revenues EBITDA Predicted EV

Technology $1,000 $400 $ 3,250.00
Hotels $2,000 $200 $ 1,750.00
Corporate Expenses $0 $45 -$ 900.00
Overall Enterprise value = $4,100

Actual Enterprise value = $4,600.00

Don't break up the company. The broken up EV is lower than the consolidated EV.

Problem 3
Private retailer Public retailer
Correlation with the market NA 0.45
Return on equity 20% 10%
Expected growth rate 2.50% 2.50%
Illiquidity Discount 15% NA

Payout ratio 87.5% 75.0%

PE for public company = Payout ratio/ (Cost of equity -g)

15 = .75/(Cost of equity -.025)
Cost of equity = 7.50%
Beta for public company = 0.9
Beta for private company = 2
Cost of equity for private compa 13.00%
PE for private company = .875/(.13-.025) = 8.3333
PE after illiquidity discount = 7.0833

Spring 2015
Problem 1 Grading Template
Assets Liabilities
Cash $100 Debt $200
Other current assets $150
Fixed assets $650
Equity $800
Equity investment in Caligula
(10% owned) $100
Total Assets $1,000 Total $1,000

Part a 1. Enterprise value wrong: -1/2 to -1 po

Invested Capital = $800 ! Debt + Equity - Cash - Equity Investment in Caligula (BV) 2. Invested capital wrong; -1/2 to -1 poi
Enterprise value = $1,200 ! Debt + MV of equity - Cash - MV of Equity Investment in Caligula (20% of 750)
EV/Invested Capital = 1.50

Part b
EV/Invested Capital = (ROC -g)/ (Cost of capital -g) 1. Did not set up EV/Inv Cap ratio correc
Cost of capital = 8.00% 2. Math errors: -1/2 point each
Expected growth rate = 2.00%
Return on capital = 11.00%

Problem 2
Division Revenues EBITDA Net Income BV of Equity Debt (Book & Market)
Steel $800 $200 $80 $300 $200
Chemicals $600 $200 $120 $200 $300
Finance $600 $350 $100 $250 $500
Total Company $2,000 $750 $300 $750 $1,000

Division EBITDA/Sales Estimated EV/Estimated EV

Steel 25.00% 2.00 $1,600 1. Steel business EV wrong: -1/2 point
Chemicals 33.33% 2.50 $1,500 2. Chemical business EV wrong: -1/2 poi
Total $3,100 3. Financial Services business Equity Val
- Debt of divisions $500 4. Did not subtract right debt: -1 point
Value of equity in divisions $2,600 5. Math errors: -1/2 point each
ROE PBV Estimated Equity Value
Financing 40.00% 4.00 $1,000

Total value of equity = $3,600

Value per share = $24.00

Problem 3
Comparable (public) companies
Expected
cash flow
Company Business next year Market Beta Correlation with market
Sigma Inc. Technology $80.00 0.8 0.4 1. Values of stand alone companies wron
Precision Mfg. Manufacturing $25.00 0.8 0.2 2. Did not compute total beta for combin
3. Value of combined company wrong: -1
Risk free rate = 2.00% 4. Math errors: -1/2 point each
Equity Risk Premium = 5.00%
As stand alone companies to undiversified owners
Company Expected cash Total Beta Cost of equityValue
Sigma Inc. $80.00 2.00 12.00% $800.00
Precision Mfg. $25.00 4.00 22.00% $125.00
Total $925.00
As a combined company to you
Combined businesses $105.00 1.6 10.0% $1,312.50
Premium over stand alone values = $387.50
As % of value = 42%
to the average for the sector. That tells you very little.

a market beta.
u next year's operating income
 he owner of the

or you for 150,000…..

ed was 33% and took the square root of it.

regression coefficient if you don't agree with it.

pwards to 4.5%
 this problem. So, I gave full credit to any book ! Did not use any reinvestment: -0.5 point (No ROC would support this)
olution assumes that the book value of equity ! Reinvestment rate wrong (given your ROC): -0.5 point
is $ 2 billion. ! Failed to consider operating margin: -0.5 point
! Other mechanical errors: -0.5 point each

ut cash of consolidated sub: -0.5 point

BITDA incorrect: -0.5 to -1 point
tational errors: -0.5 point each

ut failed one one dimension (D on growth and F on risk)

impossible: -1 point
tions oustanding: -2 points

capital: -1 point
ap ratio: -1/2 poitn

P/BV: -0.5 point

wrong: -1 point
st of equity: -1 point
eta: -1 point
wrong: -1 point
ess wrong: -1 point
subracted it : -1 point

ectly = -1 point
d not net out cash)
osts of equity: -1 point
cost of equity: -1/2 point

ost of equity: -1 point

n value: -1 point
alue wrong: -1/2 to -1 point
pital wrong; -1/2 to -1 point

up EV/Inv Cap ratio correctly: -1.5 points

: -1/2 point each
ess EV wrong: -1/2 point
usiness EV wrong: -1/2 point
rvices business Equity Value wrong; -1/2 point
tract right debt: -1 point
: -1/2 point each

and alone companies wrong: -1/2 point each

pute total beta for combined company: -1 point
mbined company wrong: -1/2 point
: -1/2 point each