Vasudevan, Inc. forecasts the free cash flows (in millions) shown below. If the

Question

Vasudevan, Inc. forecasts the free cash flows (in millions) shown below. If the weighted average cost of capital is 14% and the free cash flows are expected to continue growing at the same rate after year 3 as from Year 2 to Year 3, what is the Year 0 value of operations, in millions?

Year                                Free Cash Flow

1                                             -$22.00

2                                              $42.00

3                                              $45.00

Please show work step by step.

Explanation / Answer

Answer

The growth rate g=$45/$42-1.0=7,14%

Terminal value at Year 2 = free cash flow/(WACC-g)=45/(0.14 - 0.0714)=$656

Value of operations = -$20(1.14) + ($42+$656)/(1.14)2 = $ 520

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