Assume that it is the end of year 2015 and you have an opportunity to buy...

Assume that it is the end of year 2015 and you have an opportunity to buy the stock of CoolTech, Inc., an IPO being offered for $4.92 per share. Although you are very much interested in owning the company, you are concerned about whether it is fairly priced. To determine the value of the shares, you have decided to apply the free cash flow valuation model to the firm's financial data that you've developed from a variety of data sources. The key values you have compiled are summarized in the following table,

FREE CASH FLOW

Year(t) FCF Other Data

2016 . $660,000 . Growth Rate of FCF, beyond 2019 to infinity = 2%

2017 . $740,000 . Weighted average cost of capital = 12%

2018 . $850,000 . Market value of all debt = $1,780,000

2019 . $1,000,000 . Market value of preferred Stock = $710,000

Number of shares of common stock to be issued = 1,100,000

a. Use the free cash flow valuation model to estimate CoolTech's common stock value per share.

b. Judging on the basis of your finding in part a and the stock's offering price, should you buy the stock?

c. On further analysis, you find that the growth rate in FCF beyond 2019 will be 3% rather than 2%. What effect would this finding have on your responses in parts a and b?

Solutions

Expert Solution

Year	FCF	Terminal value	total	DF	PV
2016	660000		660000	0.892857	589285.7143
2017	740000		740000	0.797194	589923.4694
2018	850000		850000	0.71178	605013.2106
2019	1000000	10200000	11200000	0.635518	7117802.478
2020	1020000

				Value of firm	$ 8,902,024.87

Value of equity = 8902024.87-1780000-710000=6,412,024.87
Per share = $5.83

b) Since intrinsic value is high, one shall buy the stock. 5.83 is more than 4.92 offer price

Year	FCF	Terminal value	total	DF	PV
2016	660000		660000	0.892857	589285.7143
2017	740000		740000	0.797194	589923.4694
2018	850000		850000	0.71178	605013.2106
2019	1000000	11444444	12444444	0.635518	7908669.42
2020	1030000

				Value of firm	$ 96,92,891.81

				Value of equity	$ 72,02,891.81
				Per share	$ 6.55

Hence per share rises more and hence buy the share IPO.

jeff jeffy answered 1 year ago

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