Question

Kemboja Bhd, a local company which specializes in the manufacturing of surgical instruments, had recently been listed on the ACE Market of Bursa Malaysia. It has embarked on an aggressive strategy for expanding its activities into overseas market. Since a lot of cash is required to fund this ongoing venture, the company has decided not to pay any dividend to its shareholders. At least none are expected in the near future. The company is expected to earn RM2 million in net free cash flow next year. This cash flow is expected to grow at 10% during the next four years and then grow at 8% per year indefinitely. The company has RM20 million in debt and 500,000 shares outstanding. Calculate the intrinsic value of the stock using 15% discount rate.

Answer 1

Value of Firm = Present Value (PV) of Future Cash Flows at discount Rate of 15%

Value of Firm = PV of CF₁ + PV of CF₂ +PV of CF₃ +PV of CF₄ + PV of CF₅ + PV of Terminal Value at year 5 (when growth rate is consistent for indefinite period)

Cash Flow Year 1, CF₁ = 2,000,000
CF₂ = 2,000,000* (1 + 10%)¹ = 2,200,000
CF₃ = 2,000,000* (1 + 10%)² = 2,420,000
CF₄ = 2,000,000* (1 + 10%)³ = 2,662,000
CF₅ = 2,000,000* (1 + 10%)⁴ = 2,928,200
CF₆ = 2,928,200* (1 + 8%) = 3,162,456

Terminal Value at Year 5 = CF₆ / (R- g)
TV₅ = 3162456 / (15% - 8%)
TV₅ = 3162456 / 7%
TV₅ = 45,177,943

Value of Firm = CF₁ / (1+r)¹ + CF₂ / (1+r)²+ CF₃ / (1+r)³+ CF₄ / (1+r)⁴+ CF₅ / (1+r)⁵+ TV₅ / (1+r)⁵

Value of Firm = 2000000 / (1+15%)¹ + 2200000/ (1+15%)²+ 2420000/ (1+15%)³+ 2662000 / (1+15%)⁴+ 2928200 / (1+15%)⁵+ 45177943 / (1+15%)⁵

Value of Firm = 2000000 / (1.15)¹ + 2200000/ (1.15)²+ 2420000/ (1.15)³+ 2662000 / (1.15)⁴+ 2928200 / (1.15)⁵+ 45177943 / (1.15)⁵

Value of Firm = 30,433,098

Value of Equity = Value of Firm - Value of Debt
Value of Equity = 30,433,098 - 20,000,000
Value of Equity = 10,433,098

Intrinsic Value = Value of Equity / Shares Outstanding
Intrinsic Value = 10,433,098/500,000
Intrinsic Value = RM 20.87