QUESTION 1. FINANCIAL STATEMENT PROJECTIONS.

(24 points; expected time is 50 minutes)

Below appear the 2020 actual financial statements, a set of assumptions, and templates for the 2021
forecasted financial statements for ChknPotPi, Inc, a manufacturer of frozen meals. Use the assumptions
to fill in the boxed items on the 2021 forecasted financial statements and show all work clearly in the
space provided. Note that in this forecast, equity is the “plug” account. Also note that “Net issuance
(repurchase) of stock and (dividends)” on the cash flow statement includes all transactions with
shareholders. The ratios provided in the ratio handout that I provided before the exam will be helpful. (If
you get stuck on a specific item, indicate you are stuck and fill in an assumed value to enable you to
complete the pro-formas.) Write your answers and show your work to this question on page 1 of your
submission. Please clearly label the answers to your questions with the letters provided in each box. Each
box is worth 2 points except box K which is worth 4 points.

Forecast Assumptions:

1. There will be no acquisitions or dispositions of intangible assets during 2021.

2. There will be no disposition of fixed assets during 2021.
3. ChknPotPi does not own any land.
4. There are no “Other comprehensive income” items (i.e., no dirty surplus) in any year.
5. Equity is the model “plug.”
6. Days Inventory Outstanding (DIO): 80.0
7. Days Sales Outstanding (DSO): 32.0
8. Days Payable Outstanding (DPO): 47.0
9. Average life of depreciable assets (years) 11.0
10. PP&E Turnover: 2.5
11. Annual amortization of intangibles ($ millions) $7.5
12. Stock based compensation expense ($ millions) $325.0

Income Statement ($ millions) Actual Forecast

2020 2021
Sales 9,067.20 9,728.40
Cost of goods sold (5,468.80) (5,868.90)
Gross profit 3,598.40 3,859.50

Selling, general, and administrative (2,380.50) (2,562.60)

Operating income 1,217.90 1,296.90

Interest income 28.60 30.00

Interest expense (113.50) (126.70)
Income before income taxes 1,133.00 1,200.20

Income tax expense (395.80) (423.90)

Net income 737.20 776.30
Balance Sheet ($ millions)
Actual Forecast
Assets 2020 2021
Cash 418.30 558.70
Marketable securities 387.60 426.70
Accounts receivable 910.20 A
Inventories 1,472.20 B
Prepaid expenses 220.30 236.50

Gross property, plant, and equipment 4,723.40 C

Accumulated depreciation (1,147.40) D
Net property, plant, and equipment 3,576.00 E

Intangible assets 160.50 153.00

Total assets 7,145.10 7,405.50

Liabilities and Stockholders' Equity

Accounts payable 738.10 F
Short-term debt 480.10 480.10
Other accrued expenses 784.50 745.80
Total current liabilities 2,002.70 1,957.69

Long-term debt 969.60 969.60

Other non-current liabilities 288.30 288.30
Total liabilities 3,260.60 3,215.59

Stockholders' equity 3,884.50 G

Total liabilities and stockholders' equity 7,145.10 7,405.50
Cash Flow Statement ($ millions) Actual Forecast
2020 2021
Operations:
Net income 737.20 H
Add back non-cash activity:
Depreciation of fixed assets 168.00 I
Amortization of intangible assets 7.50 7.50
Equity based compensation 300.00 325.00
Changes in:
Accounts receivable 10.00 57.30
Inventories (78.00) 185.87
Prepaid expenses 36.00 (16.20)
Accounts payable 120.00 (6.31)
Other accrued expenses and liabilities 3.00 (38.70)
Cash from (used for) operations 1,303.70 1,720.15

Investing:
Net sales (purchases) of PPE (420.00) J
Net sales (purchases) of marketable securities (123.40) (39.10)
Cash from (used for) investing (543.40) (783.86)

Financing:
Net issuance (retirement) of debt (130.00) -
Net issuance (repurchase) of stock and (dividends) (412.00) K
Cash from (used for) financing (542.00) (795.89)

Change in cash 218.30 140.40

Cash, beginning of year 200.00 418.30
Cash, end of year 418.30 558.70
QUESTION 2. VALUATION MULTIPLES USING ACCOUNTING BASED VALUATION. (15
points; expected time is 25 minutes)

Below appear selected historical information and assumptions for VialCom, Inc., a company that makes
vials for vaccines. Based on the information provided, estimate the market-to-book value of common
stockholders’ equity of VialCom as of 12/31/2020, where the “market” value is the intrinsic estimated
equity value. Show your work and answers on page 2 of your submission.

Various assumptions:
1. Current assets include excess marketable securities (i.e., financial assets) with a book value and fair
value of $6 million as of 12/31/2020.
2. VialCom, Inc.’s WACC is 11%, and its cost of equity (i.e., Re) is 14%.
3. VialCom, Inc.’s capital structure is expected to remain stable.
4. VialCom, Inc. will begin a steady state immediately in 2021 (i.e., year T+1) with constant annual
growth in net income available to common stock and stockholders’ equity of 3%.

VialCom, Inc. - Historical Balance Sheets and Income Statements

As of December 31,
BALANCE SHEET ($ millions) 2019 2020
Assets
Cash and marketable securities 5.0 6.0
Other current assets 1,211.2 1,251.7
Property, plant, and equipment 474.3 571.9
Long-term investments 19.5 19.5
Other assets 1,883.4 1,849.0
Total assets $ 3,593.4 $ 3,698.1
Liabilities and Stockholders' Equity
Total liabilities 1,693.2 1,578.6
Common stock 25.8 25.8
Additional paid in capital 1,727.0 1,727.0
Retained earnings 147.4 379.0
Treasury stock - (12.3)
Total liabilities and Stockholders' equity $ 3,593.4 $ 3,698.1

INCOME STATEMENT ($ millions) 2019 2020

Sales $ 2,811.4 $ 3,123.0
Cost of goods sold (966.9) (1,086.4)
Selling, general, and administrative expense (1,281.7) (1,393.5)
Other income (loss), net (49.5) (26.4)
Income taxes (175.5) (223.9)
Net income available for common $ 337.8 $ 392.8
QUESTION 2 – Continued

Show work here:

There are two ways this problem can be solved:

METHOD #1

Price = CSE20 + PV(AE)

CSE20 = CS + APIC + RE – TS
= 25.8 + 1,727 + 379 – 12.3 = 2,119.5 +4

AE21 = NI21 – (CSE20 × Re) Where, NI21 = NI20 × 1.03 = 404.58

= 404.58 – (2,119.5 × 14%)
+2 for knowing to use Re
= 107.85 +4

Constant growth model

AE21 107.85
PV(AE) = R −𝑔𝑔 = .14−.03 = 980.46
𝑒𝑒

Price = 2,119.5 + 980.46 = 3,099.96

MTB = 3,099.96 / 2,119.5 = 1.46 +5

METHOD #2

𝑀𝑀𝑀𝑀𝑀𝑀 = 1 + �
𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅21 −𝑅𝑅𝑒𝑒
� +2 for knowing to use Re
𝑅𝑅𝑒𝑒 −𝑔𝑔

+4 for numerator
𝑁𝑁𝑁𝑁 𝟒𝟒𝟒𝟒𝟒𝟒.𝟓𝟓𝟓𝟓
𝑅𝑅𝑅𝑅𝑅𝑅𝑅𝑅21 = 𝐶𝐶𝐶𝐶𝐶𝐶21 = 𝟐𝟐,𝟏𝟏𝟏𝟏𝟏𝟏.𝟓𝟓 = 19.1%
20

+4 for denominator

19.1−14
𝑀𝑀𝑀𝑀𝑀𝑀 = 1 + � � = 𝟏𝟏. 𝟒𝟒𝟒𝟒 +5
14−3

15 Total Points
QUESTION 3. RESIDUAL INCOME (i.e., ABNORMAL EARNINGS) VALUATION. (11 points; expected
time is 20 minutes)

The managing director for your new job just came to your desk and asked you to derive a valuation for FaceZoom,
Inc., a company that connects people on the internet. FaceZoom has the following two year projected financial
data:

Year
1 2
NIC $ 55.00 $ 70.00
Beg
BV of Equity $ 100.00 $ 110.00
BV of EquityEnd $ 110.00 $ 135.00

Other assumptions:
Beta 1.60
Rf 2.0%
Rm 8.0%
Assumed tax rate 21.0%
Assumed terminal g 3.0%

Where:

NIC = Net income available to common shareholders

EquityBeg = Total common shareholders’ equity at the beginning of the year
EquityEnd = Total common shareholders’ equity at the end of the year
Beta = CAPM Beta of equity
Rf = Risk free rate
Rm = Required return for the market
Assumed tax rate = Tax rate to be used throughout the calculations
Assumed terminal g = Growth rate of the company beyond year 2

Further assume that at the time of your valuation (i.e., year 0) the company has neither financial obligations (i.e.,
100% equity financed) nor financial assets.

Unfortunately, your managing director needs this valuation done quickly which is why she came to you.
Fortunately, you recall from your FSA class at Booth that the Residual Income (i.e., Abnormal Earnings) approach
was a relatively quick approach to valuation. Calculate the value of FaceZoom, Inc. equity using the Residual
Income method. Keep at least 2 decimal points for all intermediate calculations and then round your final value
to the nearest decimal point. Show your work and answers on page 3 of your submission.
 𝑁𝑁𝑁𝑁2 ×(1+𝑔𝑔)−𝑅𝑅𝑒𝑒 ×𝐶𝐶𝐶𝐶𝐶𝐶2
𝑒𝑒 𝑒𝑒
𝐸𝐸𝐸𝐸 𝑁𝑁𝑁𝑁1 −𝑅𝑅 ×𝐶𝐶𝐶𝐶𝐶𝐶0 𝑁𝑁𝑁𝑁2 −𝑅𝑅 ×𝐶𝐶𝐶𝐶𝐶𝐶1 (𝑅𝑅𝑒𝑒 −𝑔𝑔)
𝑉𝑉0 = 𝐶𝐶𝐶𝐶𝐶𝐶0 + 1 + 2 + 𝑒𝑒 2
�1+𝑅𝑅𝑒𝑒 � �1+𝑅𝑅 𝑒𝑒 � �1+𝑅𝑅 �

𝑅𝑅 𝑒𝑒 = 𝑅𝑅 𝑓𝑓 + 𝛽𝛽 𝑒𝑒 (𝑅𝑅𝑚𝑚 − 𝑅𝑅 𝑓𝑓 )

𝑅𝑅 𝑒𝑒 = 0.02 + 1.60 × (0.08 − 0.02) = 𝟏𝟏𝟏𝟏. 𝟔𝟔% +3

70×(1+.03)−.116×135
𝐸𝐸𝐸𝐸 55−0.116×100 70−0.116×110 (.116−.03)
𝑉𝑉0 = 100 + + (1+0.116)2 +
(1+0.116)1 (1+.116)2 +8

= 100 + 38.89 + 45.96 + 526.94

= 711.79

(Where the 6 points should be allocated for deriving each of the three terms of the value of equity
in the equation—i.e., give partial credit for attempting each of the three parts).

11 Total Points