PROBLEM 1 Assume that you have been asked to place a value on the ownership position in Briarwood Hospital. Its projected profit...

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PROBLEM 1
Assume that you have been asked to place a value on the ownership position in Briarwood Hospital. Its
projected profit and loss statements and retention requirements are shown below (in millions):

	Year 1	Year 2	Year 3	Year 4	Year 5
Net revenues	$225.0	$240.0	$250.0	$260.0	$275.0
Cash expenses	$200.0	$205.0	$210.0	$215.0	$225.0
Depreciation	$11.0	$12.0	$13.0	$14.0	$15.0
Earnings before interest and taxes	$14.0	$23.0	$27.0	$31.0	$35.0
Interest	$8.0	$9.0	$9.0	$10.0	$10.0
Earnings before taxes	$6.0	$14.0	$18.0	$21.0	$25.0
Taxes (40 percent)	$2.4	$5.6	$7.2	$8.4	$10.0
Net profit	$3.6	$8.4	$10.8	$12.6	$15.0
Estimated retentions	$10.0	$10.0	$10.0	$10.0	$10.0

Briarwood's cost of equity is 16 percent, its cost of debt is 10 percent, and its optimal capital structure is
40 percent debt and 60 percent equity. The best estimate for Briarwood's long-term growth rate is 4
percent. Furthermore, the hospital currently has $80 million in debt outstanding.
a. What is the equity value of the hospital using the Free Operating Cash Flow (FOCF) method?
b. Suppose that the expected long-term growth rate was 6 percent. What impact would this change have
on the equity value of the business according to the FOCF method? What if the growth rate were
only 2 percent?
c. What is the equity value of the hospital using the Free Cash Flow to Equityhloders (FCFE) method?
d. Suppose that the expected long-term growth rate was 6 percent. What impact would this change have
on the equity value of the business according to the FCFE method? What if the growth rate were
only 2 percent?