# Question

We wish to estimate the value of Portal Inc. under alternative assumptions about the firm's performance.

a. Using the discounted cash-flow (DCF) approach to valuation and the follow ing assumptions, provide an estimate of Portal's value.

• This year sales are expected to be $750 million. They are expected to grow at a rate of 5 percent per year for the next four years, and then at 3 percent per year forever

• The pre-tax operating margin currently at 15 percent will grow at a rate of 1 percent every year for four years and then stabilize at 20 percent forever

• The working capital requirement to sales ratio will remain at its current level of 18 percent forever

• Capital expenditure will be $50 million this year and will grow at the same rate as the sales

• Annualdepreciationexpenseforthecurrentyearwillbe$50millionandthen grow at the same rate as the capital expenditure

• Portal Inc. has $500 million of debt outstanding. It can borrow at 6 percent

• Portal's income tax rate is 40 percent

• Portal's beta is 1.05. The risk-free rate and the market risk premium are 5 percent

• The debt-to-total-capital ratio of Portal, at market value, is 50 percent

b. Assume that Portal's performance can be improved through the following:

1. A half a percentage point increase in the growth rate in sales every year

2. An improvement in operating margin after tax of 1 percent per year, every year

3. A reduction of the ratio working capital requirement to sales from 18 percent to 16 percent immediately

4. A recapitalization that could lower Portal's weighted average cost of capital by 30 basis points Show how each of these actions will change the firm's estimated DCF value. What will the change in value be if all actions are implemented simultaneously? Why is the sum of the changes in value resulting from each action smaller than the change in value resulting from their cumulative effects?

a. Using the discounted cash-flow (DCF) approach to valuation and the follow ing assumptions, provide an estimate of Portal's value.

• This year sales are expected to be $750 million. They are expected to grow at a rate of 5 percent per year for the next four years, and then at 3 percent per year forever

• The pre-tax operating margin currently at 15 percent will grow at a rate of 1 percent every year for four years and then stabilize at 20 percent forever

• The working capital requirement to sales ratio will remain at its current level of 18 percent forever

• Capital expenditure will be $50 million this year and will grow at the same rate as the sales

• Annualdepreciationexpenseforthecurrentyearwillbe$50millionandthen grow at the same rate as the capital expenditure

• Portal Inc. has $500 million of debt outstanding. It can borrow at 6 percent

• Portal's income tax rate is 40 percent

• Portal's beta is 1.05. The risk-free rate and the market risk premium are 5 percent

• The debt-to-total-capital ratio of Portal, at market value, is 50 percent

b. Assume that Portal's performance can be improved through the following:

1. A half a percentage point increase in the growth rate in sales every year

2. An improvement in operating margin after tax of 1 percent per year, every year

3. A reduction of the ratio working capital requirement to sales from 18 percent to 16 percent immediately

4. A recapitalization that could lower Portal's weighted average cost of capital by 30 basis points Show how each of these actions will change the firm's estimated DCF value. What will the change in value be if all actions are implemented simultaneously? Why is the sum of the changes in value resulting from each action smaller than the change in value resulting from their cumulative effects?

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