Question

In: Finance

A company had $15 of sales per share for the year that just ended. You expect...

A company had $15 of sales per share for the year that just ended. You expect the company to grow their sales at 6.5 percent for the next five years. After that, you expect the company to grow 3.5 percent in perpetuity. The company has a 15 percent ROE and you expect that to continue forever. The company's net margins are 6 percent and the cost of equity is 11 percent. Use the free cash flow to equity model to value this stock. Do not round intermediate calculations. Round your answer to the nearest cent.

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Solutions

Expert Solution

EPS for the year just ended = Sales*Profit Margin = 15*6% = $0.9

As, Net Margin is constant, EPS will grow at same rate as Sales

Cash Flows will be discounted using Cost of Equity.

Year t Cash Flow Discounting Factor
[1/(1.11^t)]
PV of Cash Flow
(cash flow*discounting factor)
1 1 0.9 + 6.50% = 0.9585 0.900900901 0.863513514
2 2 0.9585 + 6.50% = 1.0208025 0.811622433 0.828506209
3 3 1.0208 + 6.50% = 1.087154663 0.731191381 0.794918119
4 4 1.0872 + 6.50% = 1.157819716 0.658730974 0.762691709
5 5 1.1578 + 6.50% = 1.233077997 0.593451328 0.731771775
5 5 Terminal Value=
[(1.233077997+3.5%)/(11%-3.5%)]
17.01647636 0.593451328 10.09845049
Expected Share Price today
=sum of PVs
14.07985182

Therefore, Value of Stock = $14.08


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