Valuing a Cyclical Firm: Normalized Earnings (ROIC) XYZ Corporation reported a deficit per share in 2010 of $4.85, following losses in the two earlier years (the average earnings per share is negative). The company had assets with a book value of $25 billion, and spent almost $7 billion on capital expenditures in 2010, which was partially offset by a depreciation charge of $6 billion. The firm had $19 billion in debt outstanding, on which it paid interest expenses of $1.4 billion. It intends to maintain a debt ratio (D/(D+E)) of 50%. The working capital requirements of the firm are negligible, and the stock has a beta of 1.10. In the last normal period of operations for the firm between 2003 and 2006, the firm earned an average return on assets of 12%. (The tax rate was 40%.) Hint: Use ROA to ROE conversion to estimate re. Once earnings are normalized, XYZ expects them to grow 5% a year forever, and capital expenditures and depreciation to keep track. 1. Estimate the equity value for XYZ, assuming earnings

are normalized instantaneously. 2. How would your valuation be affected if XYZ is not going to reach its normalized earnings until 2012 (in two years)?