•Suppose FCFE = $900,000 for years 1-4 and then is expected to grow at a rate...

•Suppose FCFE = $900,000 for years 1-4 and then is expected to grow at a rate of 3%. Assume ke = 18%. What is the market value of equity?

Expert Solution

Cost of equity (ke) = 18%

Free Cash Flow to Equity shareholders (FCFE) from years 1 to 4 = $900,000

Growth in FCFE after year 4

Using Gordon's dividend growth model,

Terminal value of FCFE at the end of year 4 = FCFE₅ / (ke-g) = FCFE₄ x (1+g) / (ke-g)

Terminal value of FCFE at the end of year 4 = 900,000 x (1+3%) / (18%-3%) = $ 6,180,000

Therefore market value of equity:

Year	FCFE	PVF @ 15%	PV
1	900,000	0.870	782,609
2	900,000	0.756	680,529
3	900,000	0.658	591,765
4	900,000	0.572	514,578
(Terminal value) 4	6,180,000	0.572	3,533,435
Market Value of Equity			6,102,916

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jeff jeffy answered 1 year ago

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