Question

Value the shares of Pulitzer Co. The modeling assumptions are:

• Current sales are $60 million. They will grow at 30% annually for the first four years, and then grow at 6% annually thereafter.

• Net income will be 10% of sales.

• The net investment in fixed capital will be 50% of the sales increase each year

• The investment in working capital will be 10% of the sales increase.

• Debt financing will be 40% of the net investments in fixed capital and working capital each year

• The required rate of return for equity is 11%.

• There are 2 million outstanding shares.

What is the intrinsic value per share of Pulitzer?

Answer 1

SOLUTON:-

We know that the value of share is aclculated as sum of present values of all future free cash flows. For this, we add the present values of cash flows of all years of abnormal growth period.

In the given case, we can see that 4 years is the period of abnormal growth post which growth rate would settle down at 6%. Therefore, we mus calculate the free cash flows for the first four years as well as the terminal value at the 4th year. The sum of present values of the amount so calculated would the value of equity.

PV factor (year 1) = 1/(111%) = 0.901

PV factor (year 2) = 1/(111%)2 = 0.812

PV factor (year 3) = 1/(111%)3 = 0.731

PV factor (year 4) = 1/(111%)4 = 0.659

Present value FCFE (year 1) = FCFE*PV factor = 1.32*0.901 = 1.19

Present value FCFE (year 2) = FCFE*PV factor = 1.72*0.812 = 1.39

Present value FCFE (year 3) = FCFE*PV factor = 2.23*0.731 = 1.63

Present value FCFE (year 4) = FCFE*PV factor = 2.90*0.659 = 1.91

Paartculars Formula Formula Figure Year 1 60*130% 78.00 Year 2 60*(130%)? 101.40 Year 3 60*(130%) 131.82 Sales ($ million) Year 4 Year 5 60*(130%)4 60*(130%)**(106%) 171.37 181.65 Net income Sales*10% 7.80 10.14 13.18 17.14 18.16 Increase in sales ($ million) Current year - prior year 18.00 23.40 30.42 39.55 10.28 Capex 50% of increase in sales 9.00 11.70 15.21 19.77 5.14 Working capital investment 10% of increase in sales 1.80 2.34 3.04 3.95 1.03 Total capex and working capital Capex + Work Capital 10.80 14.04 18.25 23.73 6.17 Debt raised 40% of total capex and working capital 4.32 5.62 7.30 9.49 2.47 Net income - capex - Free cash flow to equity (FCFE) working capital investment + debt raised 1.32 1.72 2.23 2.90 14.46 Present value factor @11% Using discount rate of 11% 0.901 0.812 0.731 0.659 0.593 Present value of FCFE FCFE* present value factor 1.19 1.39 1.63 1.91 Terminal value at the end of year 4 = {FCFE Year 5*(1+6%)}/11% = 14.46*(1+6%)/11% = 139.34 Present value of terminal value = Terminal value*PV factor of year 4 = 139.34*0.659 = $91.83 million Value of equiy = Sum of present values of FCFE for 4 years and PV of terminal value Value of equity = 1.19 + 1.39 + 1.63 + 1.91 + 91.83 = $97.95m Value per share = $97.95m/2m shares = $49 per share.

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