Question

Fauji Fertilizer Corporation expects to generate following free cashflows in coming 5 years.

Year 1 2 3 4 5
FCF (Rs. Million) 51 70 77 72 80

After this time period, the free cashflows will grow constantly at 3% per year. The firm’s cost of capital is 13%. Using the discounted free cashflow model, calculate the following.

a. What is the enterprise value of Fauji Fertilizer Ltd? (2.5 marks)
b. If Fauji Fertilizer have access cash of Rs. 32 million, debt of Rs. 280 million, and the 40 million shares outstanding and trading in the market, what should be the expected share price of Fauji Fertilizer? (2.5 marks)
c. Suppose that the stocks of Fauji Fertilizer are being sold in the market at Rs. 12 per share. Will you buy that stock? why or why not? (1 mark)

Answer 1

a. The price per share is computed as shown below:

= FCF1 / (1 + cost of capital) + FCF 2 / (1 + cost of capital)² + FCF3 / (1 + cost of capital)³ + FCF4 / (1 + cost of capital)⁴ + FCF5 / (1 + cost of capital)⁵ + 1 / (1 + WACC)⁵ [ ( FCF in year 5 (1 + growth rate) / (WACC - growth rate) ]

= 51 million / 1.13 + 70 million / 1.13² + 77 million / 1.13³ + 72 million / 1.13⁴ + 80 million / 1.13⁵ + 1 / 1.13⁵ [ ( 80 million x 1.03) / ( 0.13 - 0.03) ]

= 51 million / 1.13 + 70 million / 1.13² + 77 million / 1.13³ + 72 million / 1.13⁴ + 80 million / 1.13⁵ + 824 million / 1.13⁵

=  51 million / 1.13 + 70 million / 1.13² + 77 million / 1.13³ + 72 million / 1.13⁴ + 904 million / 1.13⁵

= 688.1318042 million

So, the value per share will be computed as follows:

= (688.1318042 million + cash - debt) / Number of shares

= (688.1318042 million + 32 million - 280 million) / 40 million shares

= $ 11.00 Approximately

c. No, we shall not buy the stock since the price in the market is greater than the fair value of stock as computed in part b above which indicates that the stock is overvalued in the market.

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