Question
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You are considering buying common stock in Grow On, Inc. You have calculated that the firm's...
You are considering buying common stock in Grow On, Inc. You have calculated that the firm's free cash flow was $5.90 million last year. You project that free cash flow will grow at a rate of 8.0% per year indefinitely. The firm currently has outstanding debt and preferred stock with a total market value of $10.20 million. The firm has 1.79 million shares of common stock outstanding. If the firm's cost of capital is 23.0%, what is the most you should pay per share for the stock now?
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Expert Solution
Per share stock value today is $18.03
| Step-1:Calculation of value of firm | ||||||||||||
| As per discounted cash flow method, value of firm is the present value of cash flow from bond. | ||||||||||||
| Present value of cash flow | = | FCF0*(1+g)/(K-g) | Where, | |||||||||
| = | 5.90*(1+0.08)/(0.23-0.08) | FCF0 | Free cash flow of last year | $ 5.90 | million | |||||||
| = | $ 42.48 | million | g | Growth rate | 8% | |||||||
| k | Cost of capital | 23% | ||||||||||
| Step-2:Calculation of value of common shares | ||||||||||||
| million | ||||||||||||
| Value of firm | $ 42.48 | |||||||||||
| Less value of debt and preferred stock | $ 10.20 | |||||||||||
| Value of shares of common stocks | $ 32.28 | |||||||||||
| Step-3:Calculation of per share value | ||||||||||||
| Per share value | = | Value of shares of common stock | / | Number of common shares | ||||||||
| = | $ 32.28 | million | / | 1.79 | million | |||||||
| = | $ 18.03 | |||||||||||
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