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Acquirer Companys management believes that there is a 60 percent chance that Target Companys free cash flow to the firm will grow at 20 percent per year during the next five years from this years level of $5 million. Sustainable growth beyond the fifth year is estimated at 4 percent per year. However, they also believe that there is a 40 percent chance that cash flow will grow at half that annual rate during the next five years and then at a 4 percent rate thereafter. The discount rate is estimated to be 15 percent during the high growth period and 12 percent during the sustainable growth period for each scenario. What is the expected value of Target Company?

Answer: $94.93 million PV20PV10=EV=(1.15)5(1.20)+(1.15)25(1.2)2+(1.15)35(1.2)3+(1.15)45(1.2)4+(1.15)55(1.2)5+(1.15)55(1.2)5(1.04)/(.12.04)=$5.22+$5.44+$5.68+$5.93+$6.19+$80.41=$108.87(1.15)5(1.10)+(1.15)25(1.1)2+(1.15)35(1.1)3+(1.15)45(1.1)4+(1.15)55(1.1)5+(1.15)55(1.1)5(1.04)/(.12.04)=$4.78+$4.57+$4.38+$4.19+$4.01+$52.1=$74.03=.6$108.87+.4$74.03=$94.93

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