Chapter 4 INCOME BASED VALUATIONIN CONCEPTS AND METHODOLOGIES Many investors and analysts find that the best estimate for the value of the company or an asset is the value of the returns that it will yield or income that itwill generat tal Income is based on the amount of money that the company or the assets will generate over the period of time. These amounts will be reduced by the costs that they need to incur in order to realize the cash inflows and operate the assets. In income based valuation, i s: the dividéndwirrelevance theory and the bird-in-hand theory. irelevance theory was introduced by Modigliani and Miller that supports the Once the value of the asset has been established, investors and analysts are also particular about certain factors that can be considered to properly value the asset. These are eaming accretion ordilution, equity control premium-and Precedent transactions. FERRI is the additional value inputted in the calculation that would account for the increase in value of the firm due to other quantifiable attributes like potential.growth, increase inyprices) and even)operating efficiencies. At the opposite end, Saree reduce value if there future circu ces that will affect the firm negatively. But in both cases, these onda RS aSarTanes is the amount that is added to the value of the firm in order to gain control of it. is. on the other hand, are previous deals or experiences that can be similar with the investment being evaluated. These transactions are considered risks that may affect further the ability to realize the projected earnings. In income based approach, akey drivers thelGost of Capital SF the FeGired,. Ss: Cost of capital can be computed through (a) Weighted erage Cost of Capital or (b) Capital Asset Pricing ModelWACC = (ke x We) + (ka X Wa) ke = cost of equity We = weight of the equity financing kg = cost of debt after tax Wa = weight of the debt financing lel or CAPM. The formula to be used is as follows Ry = risk free rate eta m = market retum To illustrate, the risk-free rate is 5% while the market return is roving around 91%, the beta is 1.5. The cost of equity is 15.365% [5% + 1.5 (11.91% If the prospect can be purchased by purely equity alone the cost of | is 15.365% already. However, if there will be portion raised through it should be weighted accordingly to determine the reasonable cost of cital for the project to be used for discounting. “ne cost of debt can be computed by adding debt premium over the risk-free kq = Ry + DM Rr = risk free rate DM = debt margin To illustrate, the risk-free rate is 5% and in order to borrow in the industry, a i premium is considered to be about 6%. Given the foregoing, the cost of debt is 11% [5% + 6%]. Now, assuming that the share of financing is 30%VALUATION CONCE! equity and 70% debt, and the tax rate is 30%. The weighted average cost of capital will be computed as: WACC = (Ke x We) + (ka X wa) WACC = (45.365% x 30%) + (11% x (1- 30%) x 70%) WACC = 461% + 5.39% WACC = 10% . The WACC is 10%. In to factor sreterease en omcsanans i than Sannasnhehenaalaa aap s. In the succeeding discussions, the value of the stocks will be based on the value of the cash flows that the cornary wil generate. HO aBERSEEY SW UotmaSN oF REVSRG ig economic value added, capitalization of earnings method, or discounted cash flows method. Economic Value Added ‘The rG8t Gonventional way to deter Min@the value of the'assetisithrough its economicivaliié!added. In Economics and Financial Management, economic igs. EVA i ital. The The general is firm. The elements that must be considered in using EVA are; + Reasonableness of eamings’or returns * — Appropriate cost of capital ‘The earnings can easily be determined, especially for GCBOs, based on their historical performance or the performance of th rly ated companyCRA eer _encing that will be employed for the asset. The EVA is computed using this emule: 2 wustrate, Chandelier Co. projected earnings to be Php350 Million per year. ‘he board of directors decided to sell the company for Php1.5 Billion with a “es of capital appropriate for this type of business at 10%. Giver “Sregoing, the EVA is Php200 [Php350 — (Php1,500 x 10%)] P2200 Millio: the company is reasonable to ings it realized on an r for © cepitalized earings method, the value of the asset or it ue iy. . This method provides for the sSationship of the (1)/estimated earnings of the company; (2) expected yield "ee the required rate of return; (3) estimated equity value. | Te value of the equity can be calculated using this formula: Future Earnings aUGY Vida aeeanarirn = the capitalization of earnings method, if earnings are fixed in the future, the capitalization rate will be applied directly to the projected fixed earnings. For example, Mobile Inc. expects to earn Php450,000 per year expecting a return 12%.The equity value is determined to be Php3,750,000 computed as follows: Php450,000 Ve im Equity Value ae Equity Value = Php3,750,000 Another scenario is that the future eamings are not constant and vary every year, the suggested approach is to determine average of earnings of all the anticipated cash flows. For example, Mobile Inc. projects the following net cash flows in the next five years, with the required return of 12%: Net Cash Flows Year (in Php) 4 450,000 2 500,000 3 650,000 A 700,000 5 750,000 ‘To calculate for the equity value under variable net cash flows, you need to determine the average of all the variable net cash flows in the given period. Based on the given example, the average of the cash flows is amounting to Php610,000. Net Cash Flows Year (in Php) 1 450,000 _| 2 500,000 3 650,000 4 700,000 5 750,000 Average 610,000 Once the average of the net cash flows was determined, the equation will be applied. Php610,000 Equity Value = 12% Equity Value = Php5,083,333| | ___ RAS ‘ |e eauity value calculated is Php5,083,333. In the valuation process, this |. i all assets. It is generally assumed that all assets are income [igererating. e Ss. the | earnings and do not i of | ts. | =2¥ewing through the information of Mobil ith the calculated equity [eine , 3, assume that ti en 000. This value should be included in the equity value but on top of ‘= capitalized eamings. Hence, the adjusted equity value is Php6,433,333 “s~ outed as follows: Capitalized Eamings Php 5,082,333 Add: idle Assets 1,350,000 Equity Value Pap 6 493,8987 eee the capitalization of earnings is simple and convenient, there are Mee cto: (1) this does may” not fully account for the future earnings or cash flows thereby resulting to over or undervaluation; (2) inability to incorporate contingencies; (3) assumptions used:to:determine the cashflows may not hold true since the projections are based on alte time hozon, set cash flows that wol ction. This approach will be discussed thoroughly in the Chapter 5.Income based valuation approaches require the use of cost of capital to calculate value of future €amings. Cost of capital can be derived using two sore eect through caléulating:the weighted average cost of capital or through the Capital Asset Pricing Model (CAPM). Income” 'baséd'"Vallation" "approaches include economic’ value-added, capitalized earnings approach and discounted cash flow approach. Economic value added calculates the excess of company earnings after deducting cost of capital. ap prach LAO ORNN Ge es . pproach is ing the value as it sociatedVALUATION CONCEPTS AND METHODOLOGIES EXERCISES True or False. Write TRUE if the Staternent is true and the word FALSE if d the statement inconsistent with the truth Many investors and analysts find that the best estimate for the value of the company or an asset is the value of F the returns that it will yield or income that it will generate. 2. Income is based on the amount of money that the company or the assets will generate over the period of time. 3. In income-based valuation, investors consider two opposing theories: the dividend irrelevance theory and : the bird-in-hand theory 4. The dividend irrelevance theory was introduced by Modigliani and Myron Gordon that supports the belief that the stock prices are not affected by dividends or the returns on the stock but more on the ability and , sustainability of the asset or company. 5. Bird-in-the hand theory believes that dividend or capital = gains has an impact on the price of the stock. 6. Bird-in-the hand theory is also known as dividend relevance theory developed by Miller and John Lintner. 7. Earning accretion is the additional value inputted in the calculation that would account for the increase in value of the firm due to other quantifiable attributes like potential growth, increase in prices; and even operating efficiencies. 8. Earnings dilution will increase value if there are future circumstances that will affect the firm negativel 9. Equity control premium is the amount that is added to | the value of the firm in order to gain control of it. 10. Precedent transactions, on the other hand, are previous deals or experiences that can be similar with the , investment being evaluated 41. In income-based approach, a key driver is the cost of capital or the required return for a venture. 412. Cost of capital can be computed through (a) Weighted Average Cost of Capital or (b) Capital Asset Pricing i Model ws 18. The average cost of capital formula can be used in determining the minimum required return. 14. WACC may also include other sources of financing like Preferred Stock and Retained Eamings.VALUATION CONCEPTS AND METHODOLOGIES ANSWER uae cost of equity may be also derived using Capital Asset Pricing Model or CAPM. the cost of capital is a major driver in determining the equity value using income based approaches. The most conventional way to determine the value of the asset is through its economic value added. 18. In Mathematics, economic value added (EVA) is a convenient metric in evaluating investment as it quickly measures the ability of the firm to support its cost of capital using its earnings. 19. EVA is the excess of the company earnings after deducting the cost of capital 20. The general concept of EVA is that higher excess earnings is better for the firm. 21 Cost of debt is tax-exempt, hence, there is tax benefit from it. 22. Cost of equity is riskier as compared to the cost of debt | which is variable. 23. ‘One of the elements that must be considered in using EVA is the reasonableness of eamings or retums. 24. The value of the company can also be associated with the anticipated returns or income earnings based on the historical earnings and expected earings. 25. In capitalization of earnings method, earnings are typically interpreted as resulting cash flows from operations, but net income may also be used if cash flow information is not available. 26. in capitalized earnings method, the value of the asset or the investment is determined using the anticipated earnings of the company divided by the capitalization rate (i.e. cost of capital). 27. Capitalized eamings method provides for the relationship of the (1) estimated earnings of the company; (2) expected yield or the required rate of return; (3) estimated equity value. 28. In the capitalization of earnings method, if earnings are fixed in the future, the capitalization rate will be applied directly to the projected fixed earnings. 29. Another scenario in the capitalization eamings method Is that the future earnings are not constant and vary every year, the suggested approach is to determine average of earnings of all the anticipated cash flows.ANSWER VALUATION CONCEPTS AND METHODOLOGIES 31 30. STATEMENT Capitalized earnings only represent the assets that actually generate income or earnings and also includes value of the idle assets. While this method is simple and convenient, one of the limitations of capitalization of earnings is that this does may not fully account for the future earnings or cash flows thereby resulting to over or undervaluation. 32. One of the elements ihat must be considered in using EVA is the appropriate cost of capital While this method is simple and convenient, one of the limitations of capitalization of earnings is the ability to incorporate contingencies: While this method is simple and convenient, one of the limitations of capitalization of earnings is that assumptions used to determine the cashflows may not hold true since the projections are based on a limited time horizon. 35. 36. Discounted Gash Flows is the most popular method of determining the value. This is generally used by the investors, valuators and analyst because this is the most sophisticated approach in determining the corporate value. Discounted Cash Flows is more verifiable since this allows for a more detailed approach in valuation. 37. The discounted cash flows or DCF Model calculates the equity value by determining the present value of the projected net cash flows of the firm. 38, There isn't one perfect method to determine a company’s value, which is why assessing a company’s future earnings has some drawbacks. 39. The Income based approach is favorable since it is easy to apply and makes use of real-world transactions to derive a value. If a business is worth what someone is willing to pay for it, then the market approach is the most appropriate methodology to determine that value. 40. The mechanics of Income based approach involve finding a price multiple of the benchmark, i.e. price to | earnings ratio, EV to EBITDA, price to book value, etc. The price multiple is then multiplied with the relevant financial metric of the business being valued to arrive at a valuation estimate.RA kee Oa eRey MULTIPLE CHOICE THEORIES. Write the letter of the best answer before the number of the question or statement being answered. 1. Avaluation approach that is based on the concept that the actual value of @ business lies in the ability to produce revenue, profit and eventually wealth in the future. a. Income Based Valuation Approach b. Market Based Valuation Approach c. Asset Based Valuation Approach d. Liquidation Valuation Approach 2. The following methods are NOT income-based valuation technique except a. Economic Value Added, Capitalizing current eamings and discounted future earnings -b. Economic Value Added, Capitalization of earnings method and discounted cashflow method c. Economic Value Added, Capitalizing past earnings and discounted cashflow approach d. Economic Value Added, Discounted Cashflow and Revenue Approach 3. Valuation approach that determines the equity value by calculating the present value of the expected future net cash flows or profits Revenue Approach Discounted Cashflows Method Approach Capitalization of Earnings Approach Economic Value Added a2o00 4. A valuation method used to estimate a firm's worth based on earnings forecasts. It uses these forecasts for the earnings of a firm and the firm's estimated terminal value at a future date, and discounts these back to the present using an appropriate discount rate. . Revenue Approach . Discounted Cashflows Analysis Capitalization of Earnings Approach Economic Value Added aeVALUATION CONCEPTS AND o © The following are ways on to estimate terminal value except Liquidation Value Model Multiples Approach Stable Growth Approach Going Concern Model aose In Income based valuation, investors consider two opposing theories a. dividend relevance theory and bird-in-hand theory b. bird-in-hand theory ¢. dividend irrelevance theory d. both bandc The theory was introduced by Modigliani and Miller that supports the belief that the stock prices are not affected by dividends or the returns on the stock but more on the ability and sustainability of the asset or company. a. dividend relevance theory b.. bird-in-hand theory c. dividend irrelevance theory d. both bande The theory believes that dividend or capital gains has an impact on the price of the stock. dividend relevance theory bird-on-hand theory dividend irrelevance theory both a and b aoge The is also known as Income based valuation approach earnings approach market approach asset-based approach going concern approach aerD In sensitivity analysis, this factor is the additional value inputted in the calculation that would account for the increase in value of the firm due fo other quantifiable attributes like potential growth, increase in prices, and even operating efficiencies. @. earning accretion ee1 13. 14, 15. . In sensit Pero esa eu amiss d. earning decrements ity analysis, this factor will reduce value if there future circumstances that will affect the firm negatively. a. earming accretion b. earning dilution c. earning increments d. earning decrements a . This is the amount that is added to the value of the firm in order to gain contro! of it. a. equity accretion b. earnings premium c. equity control premium d. additional paid in capital These are the factors that can be considered to properly value the asset using income based valuation approach, except a. earning accretion or dilution b. equity accretion or dilution c. equity control premium d. precedent transaction Using the income based valuation, these are previous deals or experiences that can be similar with the investment being evaluated. a. earning accretion or dilution b. equity accretion or dilution ¢. equity control premium d. precedent transaction These transactions are considered risks that may affect further the ability to realize the projected earnings. a. earning accretion or dilution b. equity accretion or dilution ¢. equity control premium d. precedent transaction . A key factor that is used to discount the net cash flows in the future is 3 a. cost of equity b. cost of earningsee) Reel ¢. cost of debt d. cost of capital 17. The cost of can be computed primarily by getting the weight of cost of sources of fund, through and a. cost of equity; weighted average cost of capital; capital asset pricing model b. cost of equity; average cost of capital; capital asset pricing model ©. cost of capital; weighted average cost of capital; capital asset pricing model d. cost of capital; average cost of capital; capital asset pricing model 18. The is a calculation of a firm's in which each category of is proportionately weighted. a. weighted average cost of capital; capital; cost of capital b. weighted average cost of capital; cost of capital; capital c. average cost of capital; capital; cost of capital d. average cost of capital; cost of capital; capital 19. The beta in Capital Asset Pricing Model is use to represent volatility/risk of the market arbitrary systematic risk coefficient the pricing multiple used to compute for the cost of capital the credit spread/debt premium added to risk free rate. aes 20. The following statements are correct for the Economic Value Added (EVA), except: a. The most conventional way to determine the value of the asset is through its economic value added. b. Economic value added (EVA) is a convenient metric in evaluating investment as it quickly measures the ability of the firm to support its cost of capital using its earnings. c. EVA is the excess of the company's equity after deducting the cost of capital. d. The general concept here is that higher EVA is better for the firm. 21. The elements that must be considered in using EVA are as follows, exceptVALUATION CONCEPTS AND METHODOLOGIES a. Reasonableness of earnings b. Appropriate cost of capital c. Volatility of the market d. Both aandb 22. In which income based valuation method wherein the value of the asset or the investment is determined using the anticipated earnings of the company divided by the cost of capital? a. Economic Value Added (EVA) b. Capitalization of Earnings Method c. Capital Asset Pricing Method d. Discounted Cashflow Method 23. The following statements are factual discussions about Capitalization of Earnings Method except: a. In capitalization of earnings method, the value of the asset or the investment is determined using the anticipated earnings of the company divided by the cost of capital. b. You may use past earnings in the Capitalization of Earnings method for cases wherein earnings are fixed. ¢. The formula used in Capitalization of Earnings is actually grossing up the future earnings using capitalization rate to come up with the estimated asset value. d. Cost of Capital used in the Capitalization of Earnings method is equivalent to the expected yield or the required rate of return. 24. In capitalization of earnings method, these types of assets are not part of the computation hence need to be added to the Capitalized Earnings. a. Fixed Assets b. idle Assets c. Current Assets d. Noncurrent Assets 25. The following statements are limitations of capitalization of earnings method, except a. this does may not fully account for the future earnings or cash flows thereby resulting to over or undervaluation b. inability to incorporate contingencies ¢. assumptions used to determine the cashflows may not hold true since the projections are based ona limited time horizon d. Itis simple and convenientION CONCEPTS AND METHODOLOGIES i WULTIPLE CHOICE PROBLEM. Write the letter of the best answer before Ny oumber of the question or statement being answered. HBB Company for the last ten years, has earned and had cash flows of about Php 500,000 every year. As per the predictions of the company's earnings, the same cash flow would continue for the foreseeable future. The expenses for the business every year is about Php 100,000 only. Based on the available public information a Php 4 million Treasury bond has a prevailing return of Php 400,000 annually. Using Capitalization of Earnings approach, what is the value of HBB Company? a. Php 4,000,000.00 b. Php 3,000,000.00 c. Php 2,000,000.00 d. Php 1,000,000.00 HCB Company for the last ten years, has earned and had cash flows of about P600,000 every year. As per the predictions of the company’s eamings, the same cash flow would continue for the foreseeable future. The expenses for the business every year is about P500,000 only. Based on the available public information a Php 4 million Treasury bond has a prevailing return of Php 40,000 quarterly. y Using Capitalization of Eamings approach, what is the value of HCB Company? a. Php 3,000,000.00 b. Php 2,500,000.00 cc. Php 3,500,000.00 d. Php 1,000,000.00 Heart, Inc. plans to sell its business and has used Capitalization of Earnings to be an appropriate valuation method with a stable cashflow of Php 1,000,000.00 for the last 5 years. Forecast shows. that similar level of cashflow would continue in the next several years. With the stability of the business it was sold to HBB, Inc. for Php 6,000,000.00 with premium of Php 1,000,000.00. Similar instruments based on the available data is a Treasury Note with a determined quarterly interest rate. Annual Operating Expenses isPhp 609,000.00 Compute for the capitalization rate used by Heart, Inc. Yo apo aoan 3 fo Hai-dee is looking to buy a property that costs Php 115,000, and can be leased out for Php750 a month. She has done some research and has determined the net operating-expenses to be Php5,000 per year. Her desired cap rate is 10%. What is the appraisal value of this property using the capitalization of eamings approach? a. Php 40,000.00 b. Php 42,500.00 c. Php 45,000.00 d. Php 50,000.00 . Heinz, Inc. expects to generate earnings over the next five years of Php50,000.00; Php60,000.00; Phps5,000.00; Php70,000.00 and Php75,000.00. Using the Capitalization of Earnings Method, what is the estimated value of the firm using 10,00% required rate of return? a. Php 649,000.00 b. Php 657,378.72 c. Php 657,738.72 d. Php 604,000.00 . Herbert, Inc. expects to generate earnings over the next five years of PhpS0,000.00; Php60,000.00; Php65,000.00; Php70,000.00 and Php75,000.00. Using the Capitalization of Earnings Method, what is the estimated value of the firm using 8.00% required rate of return? Php 600,000.00 Php 800,000.00 Php 500,000.00 Php 700,000.00 ao08 Ernesto, Inc. has projected average earnings every year of Php 100 Million. Debt to Equity Ratio is 3:1. After tax cost of debt is 5% while cost of equity is 10%. The Board of Directors of the companyPel CONCE! EDs Mec ees decided to sell the company for P1 Billion. Compute for the Economic Value Added (EVA). a. Php 37,500,000.00 b. Php 50,000,000.00 c. Php 0.00 d. Php 25,000,000.00 8. Using Weighted Average Cost of Capital (WACC), ignoring taxes, compute the cost of capital of a company with debt ratio of 0.75:1 and is paying yearly average interest for its loans of 4% and dividend rate of 5% yearly. a. 4.00% b. 4.25% c. 4.50% d. 5.00% © Using Capital Asset Pricing Method (CAPM), compute for the cost of capital (equity) with risk-free rate of 5%, market return of 12% and Beta of 1.3. a. 14.01% b. 14.10% c. 14.00% d. 14.11% 40. Using Capital Asset Pricing Method (CAPM), compute for the cost of capital (equity) with risk-free rate of 4%, market return of 8% and Beta of 1.5. a. 10.00% b. 11.00% c. 12.00% d. 13.00% With risk-free rate of 5%, Beta of 1.5, market return of 8%, prevailing credit spread of 3%, tax rate of 30% and Equity ratio of 30%, compute for the weighted average cost of capital, a. 6.00% b. 6.77% c. 7.00% d. 7.77% 4 N With risk-free rate of 6%, B credit spread of 3%, tax rate CAPM method compute for @ 5, market retum of 8%, prevailing and Equity ratio of 30%, Using iby:1 4 1 3. 4. 3 KON aS Lae) a. 9,00% b. 6.77% c. 8.00% a. 8.77% The appropriate WACC of a firm is 6.43%. With risk-free rate of 4%, market return of 8%, prevailing credit spread of 3%, tax rate of 30% and Equity ratio of 30%, compute for the volatility of stocks or Beta. a. 1.00 b. 1.25 ce. 1.50 d. 1.75 The appropriate WACC of a firm is 6.43%. With risk-free rate of 4%, market return of 8%, prevailing credit spread of 3%, tax rate of 30% and Equity ratio of 30%, compute for the after tax cost of debt. a. 4.90% b. 5.00% c. 7.00% d. 10.00% . SPPE Corp. is planning to expand and new projects is expecting to earn an average of Php375,000 annually. If the project requires for Php5,000,000 investment at 10% cost of capital. Compute for the Economic Value Added. a. Php 125,000.00 b. (Php 125,000.00) c. Php 875,000.00 d. (Php 875,000.00) SLAC Corp. is planning to expand and new projects is expecting to earn an average of Php750,000 annually. If the project requires for PhpS,000,000 investment at 12% cost of capital. Compute for the Economic Value Added. a. Php 150,000.00 b, (Php 150,000.00) c. Php 600,000.00 d. (Php 600,000.00) . SPRO Corp. is planning to expand and new projects is expected to have an EVA of Php200,000.00. The annual cost of capital at 10% amounts to Php400,000.00. What is the average monthly earning projected for this project?18. 20. VALUATION CONCEPTS AND METH a. Php 600,000.00 b. Php 50,000.00 c. Php 60,000.00 d. Php 500,000.00 SLMA Corp. for the last ten years, has earned and had cash flows of about P600,000 every year. As per the predictions of the company’s earnings, the same cash flow would continue for the foreseeable future. The expenses for the business every year is about P500,000 only. Based on the available public information a P4 million Treasury bond has a prevailing return of P40,000 quarterly. Using Capitalization of Earnings approach, assuming SLMA would sell 20% of its shareholdings, what will be the minimum selling price? a. Php 2,500,000.00 b. Php 500,000.00 c. Php 1,500,000.00 d. Php 1,000,000.00 . SPLI, Inc. has a Debt to Equity Ratio of 3:1. After tax cost of debt is 5% while cost of equity is 10%. The Board of Directors of the company decided to sell 100% of the company for Php 1 Billion. Compute for the projected monthly average earnings assuming an EVA of Php 57,500,000.00 a. Php 37,500,000.00 b. Php 10,000,000.00 c. Php 120,000,000.00 d. Php 100,000,000.00 The appropriate WACC of a firm is 6.77%. With market return of 8%, prevailing credit spread of 3%, tax rate of 30% and Equity ratio of 30%, what is the risk free rate of the firm with Beta of 1.5? a. 4% b. 5% c. 6% d. 7%Problems P4-1. You have been asked by an Investor to compute for the Economic Value Added of the companies he is considering to invest into as follows: E Corp. V Corp. |__ACorp. Net Investment _| 55,000,000.00 | 60,000,000.00 | 70,000,000.00 WACC 8.00% | 9.00% 10.00% Net Operating | Profit After Tax_| 4,550,000.00 | 5,450,000.00 | 6,850,000.00 | a. Which company under consideration has the highest EVA? b. Which companies would you recommend for investment? c. Whatis the EVA of each companies under consideration? P4-2. Compute for the missing figures using CAPM Method: CCorp | ACorp. | P Corp. | M Corp. Risk Free rate 2 3.00% | 4.00% | 5.00% Beta [425 2 1.30 1.40 | MarketRetum | 12.00% | 11.00% 2 8.00% Cost of Equity 14.50% | 15.00% | 11.80% = Additional questions a. Which company has the highest cost of equity? b. Which company has the lowest cost of equity? P4-3. As an Analyst, you were tasked to compute for the Weighted Average Cost of Capital of various companies given the following information. Income Tax rate is 25%. Co Ca | Hes WCorp | ACorp. | Corp. _| Corp. Risk Free rate 4.00% | 3.00% | 2.00% | 3.50% Beta 1.25 1.50 1.30 1.40 _| Market Return 12.00% | 11.00% | 10.00% | 8.00% | Debt to Equity ratio 25 g 4 35 Credit Spread (in | BPS) 200 300 250 450VALUATION CONCEPTS AND METHODOLOGIES a. What is the cost of equity of each companies? b. What is the after tax cost of debt of each companies? c. What is the WACC of each companies ?4-4. Corporate Valuators, Inc. is assessing the value of two companies, Capital Corp. and Earn, Inc. which projects the following net cashflows in 2 next five years, with its desired required return. Net cashflows eproximates to be its earnings also. The balance sheet of Capital Corp. aed Earn, Inc. has recorded Property, Plant and Equipment of P100 Million ad P200 Million respectively. Operating Assets are estimated at 80% and respectively and the rest are considered idle. Net Cashflows Year Capital Corp. | Earn, Inc. 4 8,000,000.00 9,600,000.00 2 8,800,000.00 10,560,000.00. 3 9,680,000.00 11,616,000.00 4 10,648,000.00 12,777,600.00 5 11,712,800.00 14,055,360.00 Required Return 8.00% 6.00% » Using Capitalization of Earnings, compute for the Equity Value of the 2 companies. Which company has higher Equity Value? What will be the minimum selling price of the two companies assuming its Board of Directors decided to sell 20% of its shares to the public? oo