Question

CORPORATE VALUATION

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: $2 million, $5 million, $9 million, and $16 million. After the fourth year, free cash flow is projected to grow at a constant 3%. Brandtly's WACC is 12%, the market value of its debt and preferred stock totals $62 million; and it has 14 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

Answer a.

FCF1 = $2 million
FCF2 = $5 million
FCF3 = $9 million
FCF4 = $16 million

WACC = 12%

Present Value of FCF during next 4 years = $2 million/1.12 + $5 million/1.12^2 + $9 million/1.12^3 + $16 million/1.12^4
Present Value of FCF during next 4 years = $22.35 million

Answer b.

Growth Rate = 3%

FCF5 = FCF4 * (1 + Growth Rate)
FCF5 = $16 million * 1.03
FCF5 = $16.48 million

Horizon Value = FCF5 / (WACC - Growth Rate)
Horizon Value = $16.48 million / (0.12 - 0.03)
Horizon Value = $183.11 million

Answer c.

Present Value of Horizon Value = $183.11 million / 1.12^4
Present Value of Horizon Value = $116.37 million

Value of Firm = Present Value of FCF during next 4 years + Present Value of Horizon Value
Value of Firm = $22.35 million + $116.37 million
Value of Firm = $138.72 million

Answer d.

Value of Equity = Value of Firm - Value of Debt and Preferred Stock
Value of Equity = $138.72 million - $62.00 million
Value of Equity = $76.72 million

Price per share = Value of Equity / Number of Shares
Price per share = $76.72 million / 14 million
Price per share = $5.48