Question

A company has an operating income (EBIT) of $575 with a marginal tax rate of 35%. The net CAPEX was $150 with a $75 change in working capital. Over the next 5 years, they anticipate an average reinvestment rate of 25% with a return on capital of 20%. During this high-growth period, they estimate a beta of 0.90, a risk-free rate of 1% and risk premium of 4%. Pre-tax debt cost is 6.5%, with a 25% debt ratio. After year 5, the estimated beta will be 1.00, with the same risk-free rate and market risk premium as in the high-growth period. The stable pre-tax debt cost will be 4.5%, the tax rate will remain at 35% and the stable growth rate will be 2%. The schedule for Net CAPEX over the 5-year high-growth period is: $65, $70, $75, $60, $50. The schedule for Change in Net Working Capital will be: $40, $45, $30, $35, $25. For the stable period, the FCFF can be estimated using the after-tax EBIT less projected reinvestment. Based on this information, what is the projected enterprise value for the company? Show all formulas.

Answer 1

Tax rate	35%
high growth rate	20%
Stable growth rate	2%
high growth pre tax debt	6.50%
high growth post tax debt	4.23%	=6.5%*(1-35%)
stable growth pre tax debt	4.50%
stable growth post tax debt	2.93%	=4.5%*(1-35%)
Risk free rate	1.00%
Market risk premium	4.00%
High growth beta	0.90
Stable growth beta	1.00
High growth cost of equity	4.60%	=1%+0.9*4%
Stable growth cost of equity	5.00%	=1%+1.0*4%
High growth Reinvestment rate	25.00%
Weight of debt	25%
Weight of equity	75%
high growth WACC	4.51%	=25%*4.23+75%*4.6%
Stable growth WACC	4.88%	=25%*2.93+75%*5.0%

Year	Formula	0	1	2	3	4	5	6	year 6 onwards
EBIT	=575*(1+20%) for 1st year and 1430.78*(1+2%) for year 6 onwards	575.00	690.00	828.00	993.60	1,192.32	1,430.78	1,459.40
Net Capex		150.00	65.00	70.00	75.00	60.00	50.00	-
Net WC		75.00	40.00	45.00	30.00	35.00	25.00	-
Reivestment	=25% of previous year's FCFF, no reinvestment in stable growth	-	37.19	76.58	92.70	124.48	153.95	-
FCFF	= (EBIT + reinvestment) x (1 - tax rate) + depreciation - long-term investments - investments in working capital - reinvestment for the year	148.75	306.31	370.79	497.92	615.78	781.98	1,048.67	37,205.15
	=(690+148.75) *(1-35%)+0-65-40-343.5 for 1st year								=1,048.67*(1+2%)/(4.88%-2%)
PV of FCFF	=FCFF/(1+WACC)^year	148.75	293.1045	339.5063	436.245	516.248	627.3094	788.15	27,962.19
NPV of FCFF	=sum of PV of FCFF	31,111.50
Enterprise value=	NPV of FCFF	31,111.50