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: $4 million, $6 million, $12 million, and $14 million. After the fourth year, free cash flow is projected to grow at a constant 7%. Brandtly's WACC is 13%, the market value of its debt and preferred stock totals $42 million; and it has 21 million shares of common stock outstanding.

Write out your answers completely. For example, 13 million should be entered as 13,000,000.

1. 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.
   
   $
2. 
   
3. What is the firm's horizon, or continuing, value? Round your answer to the nearest cent.
   
   $
4. 
   
5. What is the firm's total value today? Round your answer to the nearest cent. Do not round your intermediate calculations.
   
   $
6. 
   
7. 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

a.The present value is calculated by computing the net present value.

Net present value can be solved using a financial calculator. The steps to solve on the financial calculator:

• Press the CF button.
• CF0= -$0. Since there is no initial cash flow for this question.
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the NPV button and enter the weighted average cost of capital of 13%.
• Press enter after that. Press the down arrow and CPT buttons to get the net present value.  

Net present value at 13% weighted average cost of capital is $25,141,767.24.

b.Horizon value= FCF4*(1 + g)/ WACC - g

= $14,000,000*(1 + 0.07)/ 0.13 - 0.07

= $14,980,000/ 0.06

= $249,666,666.7

c.Total value= Present value of free cash flows + Present value of horizon value

= $25,141,767.24 + FCF4/ (1 + WACC)^4

= $25,141,767.24 + $249,666,666.7/ (1 + 0.13)^4

= $25,141,767.24 + $249,666,666.7/ 1.6305

= $25,141,767.24 + $153,122,764

= $178,264,531.2

d.Price per share= Market value of firm - Market value of debt and preferred stock/ Number of shares outstanding

= $178,264,531.2 - $42,000,000/ 21,000,000

= $136,264,531.2/ 21,000,000

= $6.4888 6.49.

In case of any query, kindly comment on the solution.