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the total returns of Dunn Equipment, i.e., net cash-flow to
equity, not just net income. Mr. Frazier contended that he could
not capitalize net cash-flow because the net cash-flow was
negative for the period of fiscal years 1987 through 1991 and
there was no expectation of net cash-flow in the future. We
disagree. Although cash-flow was negative in 1990 and 1991, the
average over 4 years was not, as will be seen below.5 Thus, we
apply the capitalization rate to net cash-flow to equity rather
than net income.
Net income and net cash-flow to equity are calculated in
similar ways. Both begin with gross profit from operations, add
similar items of income from other sources, and subtract similar
expense items. There are several important distinctions,
however, evident in a comparison of the calculations of Mr.
Frazier and Ms. Eggleston. In his calculation of net income, Mr.
Frazier relied on the company’s income statements for fiscal
years 1987 through 1991 and computed average net income, before
reduction for interest and taxes, of $766,259. He subtracted
projected amounts for interest of $500,000 and taxes of $90,528,
resulting in an earnings base of $175,731. He divided this
figure by the capitalization rate of 21.67 percent, to arrive at
5 As explained below, we use 4-year averages rather than 5-
year averages as used by Mr. Frazier and Ms. Eggleston.
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