Question

Greshak Company, Inc. is in the business of producing and marketing high-tech widgets. Assume you are a financial analyst at Greshak and have been charged with the task of estimating the value (i.e., intrinsic value) of the company's outstanding common stock on December 31, 2017. As part of that analysis, management has provided you with the company's most recent income statement and balance sheet for 2017 as well as financial projections of each for the next 4 years. Further, management indicated that the company’s anticipated annual capital expenditures for 2018, 2019, 2020 and 2021are $90 million, $75 million, $65 million and $70 million, respectively.

Assume Greshak's applicable tax rate is 40% and that management has determined its weighted average cost of capital (WACC or “discount rate”) to be 14.0%. Further, assume Greshak has estimated its long-term sustainable growth rate (g) for its free cash flows (FCF) to be 3% upon reaching earnings stabilization after 2021 (the last year in the projection period).

Required: Based on the above (and given the financial projections below):

Using MS-Excel, replicate Greshak Company’s balance sheets and income

statements presented on the following page.

Calculate Greshak’s projected Free Cash Flow (FCF) for 2018 through 2021 using MS-Excel and the template on the following page. Assume that year-over-year changes in projected current assets and current liabilities (not including invested capital or interest-bearing debt) represent the inputs for calculating projected annual investments in net working capital.

Using MS-Excel and the template on the following pages, calculate the intrinsic value of Lauren’s operations (i.e., the estimated value of the company) using the data above (hint – see “Supernormal Growth” methodology in Chapter 6 and combine with Free Cash Flow methodology).

Statement of income for years ended December 31, in millions of USD

	actual	Projected
	2017	2018	2019	2020	2021
Net sales	1,050	1,275	1,475	1650	1735
COGS	568	680	785	900	982
rent	80	100.5	118	128	135
salaries	125	157	195	222	235
depreciation	42	59	48	45	45
Interest expense	24	22.5	24	20	21
other	132	159	195	197	170
Total expenses	971	1178	1365	1512	1588
Pre-tax income	79	97	110	138	147
Taxes (40%)	31.6	38.8	44	55.2	58.8
Net income actual	47.4	58.2	66	82.8	88.2

Balance sheet at December 31, in millions of USD

	actual	projected
	2017	2018	2019	2020	202125
Cash	25	40	45	50	62
Account receivables	125	125	142	168	180
Inventories	285	295	305	312	322
Total current assets	435	460	492	530	564
Gross fixed assets	600	690	765	830	900
Less: accumulated depreciation	328	387	435	480	525
Net plant and equipment	272	303	330	350	375
Total assets	707	763	822	880	939
Account payable	60	70	82	85.8	105
Notes payables	80	70	71	70	75
Accruals	66	80	92	105	110
Total current liabilities	206	220	245	260.8	290.0
Long term bonds	161	195	200	237	258
Total liabilities	367	415	445	497.8	548
Common stock (12,000,000 shares)	160	160	160	160	160
Retained earnings	180	188	217	222.2	231
Total common equity	340	348	377	382.2	391
Total liabilities and equity	707	763	822	880	939

Answer 1

	Calculation of Free Cash flows($ Millions)
	Details	2018	2019	2020	2021
	Net Income	58.2	66	82.8	88.2
	Add: Interest*(1-tax)	13.5	14.4	12	12.6
	Add: Depreciation	59	48	45	45
	Less: Changes in Working Capital	-11	-7	-22.2	-4.8
	Less: Capital Expenditure	-90	-75	-65	-70
	Free Cash flows	29.7	46.4	52.6	71
	Discount Factor@14%	0.877	0.769	0.675	0.592
	Present value of FCF @ 14% discount rate	26.05	35.70	35.50	42.04
	Calculation of Changes in Working Capital
	Details	2017	2018	2019	2020	2021
	Current Assets	435	460	492	530	564
	Current Liabilities	206	220	245	260.8	290
	Working Capital	229	240	247	269.2	274
	Changes in working Capital		11	7	22.2	4.8
S.No	Calculation of Terminal Value	2021
a	Long Term Growth Rate	3%
b	Discount Rate	14%
c	Free Cash Flow for the year 2021	71
d	Terminal Value = c*(1+a)/(b-a)	664.8182
S.No	Calculation of Intrinsic Value	Amount($)
1	Long Term Bonds for year ended 2017	161
2	Less : Cash Balance as on 31.12.2017	-25
3	Total Debt	136
4	Total PV of Free Cash flows & Terminal Value	804.12
5	Value of Stock(4-3)	668.12
6	No.of Shares Outstanding	12000000
7	Intrinsic Value of Share(5/6)*10^6	55.68