Question

Milano Pizza Club owns three identical restaurants popular for their specialty pizzas. Each restaurant has a debt–equity ratio of 30 percent and makes interest payments of $55,000 at the end of each year. The cost of the firm’s levered equity is 15 percent. Each store estimates that annual sales will be $1.58 million; annual cost of goods sold will be $810,000; and annual general and administrative costs will be $545,000. These cash flows are expected to remain the same forever. The corporate tax rate is 34 percent.

  

a.	Use the flow to equity approach to determine the value of the company’s equity. (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

  

Value of the company’s equity

$

  

b.	What is the total value of the company? (Enter your answer in dollars, not millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)

  

Value of the company

$

Answer 1

a.

Note every transaction is multiplied by 3 because there are 3 idenctical stores

Formula sheet :

b.

The value of firm, assuming that the equity value is after adjusting the total value of firm, will be 1.30 times of equity. Therefore, the total firm value should be 30% more than equity i.e. 2,244,000*1.30 = 2,917,200.

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