Question

Sora Industries has 6060 million outstanding​ shares,$122 million in​ debt, $50 million in​ cash, and the following projected free cash flow for the next four years:

  Year   0 1 2 3 4
Earning & FCF Forecast ($millions)                          
1   Sales 433.0   468.0   516.0   547.0   574.3
2   Growth vs. Prior Year           8.1%   10.3% 6.0% 5.0%
3   Cost of Goods Sold (313.6)   (345.7)   (366.5)   (384.8)
4   Gross Profit 154.4   170.3   180.5   189.5
5   Selling, General & Admin.      (93.6)   (103.2)   (109.4)   (114.9)
6   Depreciation (7.0) (7.5) (9.0) (9.5)
7   EBIT 53.8   59.6   62.1   65.2
8   Less: Income tax at 40%           (21.5)   (23.8)   (24.8)   (26.1)
9   Plus: Depreciation 7.0   7.5   9.0   9.5
10   Less: Capital Expenditures           (7.7)   (10.0)   (9.9)   (10.4)
11   Less: Increases in NWC           (6.3)   (8.6)   (5.6)   (4.9)
12   Free Cash Flow 25.3   24.6   30.8   33.3

​:

a. Suppose​ Sora's revenue and free cash flow are expected to grow at a 3.2% rate beyond year 4. If​ Sora's weighted average cost of capital is 13.0%​, what is the value of​ Sora's stock based on this​ information?

b.​ Sora's cost of goods sold was assumed to be​ 67% of sales. If its cost of goods sold is actually​ 70% of​ sales, how would the estimate of the​ stock's value​ change?

c. ​Let's return to the assumptions of part ​(a​) and suppose Sora can maintain its cost of goods sold at​ 67% of sales.​ However, now suppose Sora reduces its​ selling, general, and administrative expenses from​ 20% of sales to​ 16% of sales. What stock price would you estimate​ now? (Assume no other​ expenses, except​ taxes, are​ affected.)

d. ​Sora's net working capital needs were estimated to be​ 18% of sales​ (which is their current level in year​ 0). If Sora can reduce this requirement to​ 12% of sales starting in year​ 1, but all other assumptions remain as in part ​(a​),what stock price do you estimate for​ Sora? ​(Hint​:This change will have the largest impact on​ Sora's free cash flow in year​ 1.)

Answer 1

a.

V(4) = 33.3 (1.032) / (13% – 3.2%) = 350.98

V(0) = (25.3 / 1.13) + (24.6 / 1.13^2)+ (30.8 / 1.13^3) + ((33.33+350.98)/1.13^4) = 22.39+19.27+21.35+235.70 = 298.71

P(0) = (298.71 + 50 – 122) / 60 = $3.7785

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b.

	0	1	2	3	4	5
		8.1%	10.3%	6%	5%	3.2%
sales	433	468	516	546.96	574.31	592.69
COGS		-327.60	-361.20	-382.87	-402.02	-414.89
Gross profit		140.40	154.80	164.09	172.29	177.8
selling general and admin		-93.6	-103.20	-109.39	-114.86	-118.54
depreciation		-7	-7.5	-9	-9.45	-9.75
EBIT		39.80	44.10	45.70	47.98	49.51
Incometax@40%		-15.92	-17.64	-18.28	-19.19	-19.80
Unlevered net income		23.88	26.46	27.42	28.79	29.71
Add-Depreciation		7	7.5	9	9.45	9.75
Less-Capital Exp		-7.70	-10	-9.90	-10.40	-10.73
Less-increase in NWC		-6.30	-8.64	-5.57	-4.92	-5.07
Free cash flow		16.88	15.32	20.94	22.92	23.66

Hence V(4) = 23.66/ (13%-3.2%) = 241.43

V(0) = (16.88/1.13) +(15.32/1.13^2) +(20.94/1.13^3) + (22.92+241.43)/1.13^4 = 19.07+12.00+14.51+162.13 = 207.71

P(0) = (207.71+50-122)/60 = $2.26

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(C)

	0	1	2	3	4	5
		8.1%	10.3%	6%	5%	3.2%
sales	433	468	516	546.96	574.31	592.69
COGS		-313.56	-345.72	-366.46	-384.79	-397.10
Gross profit		154.44	170.28	180.50	189.52	195.59
selling general and admin		-74.88	-82.56	-87.51	-91.89	-94.83
depreciation		-7	-7.5	-9	-9.45	-9.75
EBIT		72.56	80.22	83.98	88.18	91.00
Incometax@40%		-29.02	-32.09	-33.59	-35.27	-36.4
Unlevered net income		43.54	48.13	50.39	52.91	54.60
Add-Depreciation		7	7.5	9	9.45	9.75
Less-Capital Exp		-7.70	-10	-9.90	-10.40	-10.73
Less-increase in NWC		-6.30	-8.64	-5.57	-4.92	-5.07
Free cash flow		36.54	36.99	43.92	47.04	48.55

Hence V(4) = 48.55/ (13%-3.2%) = 495.41

V(0) = (36.54/1.13) +(36.99/1.13^2) +(43.92/1.13^3) + (47.04+495.41)/1.13^4 = 32.34+28.97+30.44+332.70 = 424.45

P(0) = (424.45+50-122)/60 = $5.87

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(D)

	0	1	2	3	4	5
		8.1%	10.3%	6%	5%	3.2%
sales	433	468	516	546.96	574.31	592.69
COGS		-313.56	-345.72	-366.46	-384.79	-397.10
Gross profit		154.44	170.28	180.50	189.52	195.59
selling general and admin		-93.60	-103.20	-109.39	-114.86	-118.54
depreciation		-7	-7.5	-9	-9.45	-9.75
EBIT		53.84	59.58	62.10	65.21	67.3
Incometax@40%		-21.54	-23.83	-24.84	-26.08	-26.92
Unlevered net income		32.30	35.75	37.26	39.13	40.38
Add-Depreciation		7	7.5	9	9.45	9.75
Less-Capital Exp		-7.70	-10	-9.90	-10.40	-10.73
Less-increase in NWC		21.78	-5.76	-3.72	-3.28	-2.21 (592.69-574.31)*12%
Free cash flow		53.38	27.49	32.65	34.90	37.19

Hence V(4) = 37.19/ (13%-3.2%) = 379.50

V(0) = (53.38/1.13) +(27.49/1.13^2) +(32.65/1.13^3) + (34.90+379.50)/1.13^4 = 47.24+21.53+22.63+254.16 = 345.56

P(0) = (345.56+50-122)/60 = $4.60

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