Question

Brandtly Industries invests a large sum of money in R&D; as a result, it retains and reinvests all of its earnings. In other words, Brandtly does not pay any dividends, and it has no plans to pay dividends in the near future. A major pension fund is interested in purchasing Brandtly's stock. The pension fund manager has estimated Brandtly's free cash flows for the next 4 years as follows: $2 million, $7 million, $11 million, and $14 million. After the fourth year, free cash flow is projected to grow at a constant 7%. Brandtly's WACC is 16%, the market value of its debt and preferred stock totals $46 million; and it has 22 million shares of common stock outstanding. Write out your answers completely. For example, 13 million should be entered as 13,000,000.

What is the present value of the free cash flows projected during the next 4 years? Round your answer to the nearest cent. Do not round your intermediate calculations.

$

What is the firm's horizon, or continuing, value? Round your answer to the nearest cent. $ What is the firm's total value today? Round your answer to the nearest cent. Do not round your intermediate calculations.

$

What is an estimate of Brandtly's price per share? Round your answer to the nearest cent. Do not round your intermediate calculations.

$

Answer 1

Present value of the free cash flows projected during the next 4 years is the sum of free cash flows of these years, discounted at WACC.

Given, FCF1= $ 2 million, FCF2= $ 7 million, FCF3= $ 11 million and FCF4 = $ 14 million

WACC= 16%

PV of cash flow= 2,000,000/(1+0.16) + 7,000,000/(1+0.16)^2 + 11,000,000/(1+0.16)^3 + 14,000,000/(1+0.16)^4

=$1,724,137.93 + $5,202,140.31 + $7,047,234.41 + $7,732,075.37

=$21,705,588.02

Horizon value= PV of FCF5 onwards, as at the end of year 4= FCF4*(1+g)/(r-g)

Where FCF4= FCF for year 4 (given as $14 Million), g= constant growth rate (given as 7%) and r= WACC (given as 16%)

Plugging these values,

PV of FCF as at year 3 Or, Horizon value= $14,000,000*(1+0.07)/(0.16-0.07) = $166,444,444.44

Firm’s total value today= PVof cash flows for 4 years + PV of horizon value

= $21,705,588.02 + $166,444,444.44/(1+0.16)^4

= $21,705,588.02 + $91,925,784.96 = $113,631,372.98

Given, value of debt and preferred stock= $46 Million and number of shares= 22 Million.

Market capitalization= Value of firm- Debt = $113,631,372.98 - $46,000,000 = $67,631,372.98

Current price per share= Market capitalization/ Number of shares

= $67,631,372.98/22,000,000 = $3.07