Question

Sora Industries has 70 million outstanding​ shares, $124 million in​ debt, $48 million in​ cash, and the following projected free cash flow for the next four​ years:

		Year	0	1	2	3	4	Copy to Clipboard + Open in Excel +
Earnings and FCF Forecast​ ($ million)
1	Sales		433.0	468.0	516.0	547.0	574.3
2	Growth vs. Prior Year			​8.1%	​10.3%	​6.0%	​5.0%
3	Cost of Goods Sold			​(313.6)	​(345.7)	​(366.5)	​(384.8)
4	Gross Profit			154.4	170.3	180.5	189.5
5	​Selling, General,​ & Admin.			​(93.6)	​(103.2)	​(109.4)	​(114.9)
6	Depreciation			​(7.0)	​(7.5)	​(9.0)	​(9.5)
7	EBIT			53.8	59.6	62.1	65.2
8	​Less: Income Tax at​ 40%			​(21.5)	​(23.8)	​(24.8)	​(26.1)
9	​Plus: Depreciation			7.0	7.5	9.0	9.5
10	​Less: Capital Expenditures			​(7.7)	​(10.0)	​(9.9)	​(10.4)
11	​Less: Increase in NWC			​(6.3)	​(8.6)	​(5.6)	​(4.9)
12	Free Cash Flow			25.3	24.6	30.8	33.3

a. Suppose​ Sora's revenue and free cash flow are expected to grow at a 3.2%

rate beyond year four. If​ Sora's weighted average cost of capital is 11.0%​, what is the value of Sora stock based on this​ information?

b.​ Sora's cost of goods sold was assumed to be​ 67% of sales. If its cost of goods sold is actually​ 70% of​ sales, how would the estimate of the​ stock's value​ change?

c. Return to the assumptions of part (a​) and suppose Sora can maintain its cost of goods sold at​ 67% of sales.​ However, the firm reduces its​ selling, general, and administrative expenses from​ 20% of sales to​ 16% of sales. What stock price would you estimate​ now? (Assume no other​ expenses, except​ taxes, are​ affected.)

d.​ Sora's net working capital needs were estimated to be​ 18% of sales​ (their current level in year​ zero). If Sora can reduce this requirement to​ 12% of sales starting in year​ 1, but all other assumptions are as in (a​), what stock price do you estimate for​ Sora? (Hint​: This change will have the largest impact on​ Sora's free cash flow in year​ 1.)

Answer 1

a)
			0	1	2	3	4
1	Sales		433	468	516	547	574.3
2	Growth vs. Prior Year			​8.1%	​10.3%	​6.0%	​5.0%
3	Cost of Goods Sold			​(313.6)	​(345.7)	​(366.5)	​(384.8)
4	Gross Profit			154.4	170.3	180.5	189.5
5	​Selling, General,​ & Admin.			​(93.6)	​(103.2)	​(109.4)	​(114.9)
6	Depreciation			​(7.0)	​(7.5)	​(9.0)	​(9.5)
7	EBIT			53.8	59.6	62.1	65.2
8	​Less: Income Tax at​ 40%			​(21.5)	​(23.8)	​(24.8)	​(26.1)
9	​Plus: Depreciation			7	7.5	9	9.5
10	​Less: Capital Expenditures			​(7.7)	​(10.0)	​(9.9)	​(10.4)
11	​Less: Increase in NWC			​(6.3)	​(8.6)	​(5.6)	​(4.9)
12	Free Cash Flow			25.3	24.6	30.8	33.3
13	PVIF at 11% [PVIF = 1/1.11^n]			0.90090	0.81162	0.73119	0.65873
14	PV at 11%			22.8	20.0	22.5	21.9
15	Sum of PV of FCF t1 to t4		87.2
16	Continuing value of free cash flow = 33.3*1.032/(0.11-0.032) =						440.58
17	PV of continuing value = 440.58*0.65873 =		290.2
18	PV of FCF		377.4
19	Add: Cash		48.0
20	Value of the firm		425.4
21	Less: Debt		124.0
22	Value of equity		301.4
23	Number of shares in millions		70.0
24	Value of one share		$             4.3

b)

Cost of Goods Sold

327.6

361.2

382.9

402.01

Free Cash Flow			16.9	15.4	20.9	22.9
PVIF at 11% [PVIF = 1/1.11^n]			0.90090	0.81162	0.73119	0.65873
PV at 11%			15.2	12.5	15.3	15.1
Sum of PV of FCF t1 to t4		58.1
Continuing value of free cash flow = 22.9*1.032/(0.11-0.032) =						302.98
PV of continuing value = 302.98*0.65873 =		199.6
PV of FCF		257.7
Add: Cash		48.0
Value of the firm		305.7
Less: Debt		124.0
Value of equity		181.7
Number of shares in millions		70.0
Value of one share		$             2.6

c)

5

​Selling, General,​ & Admin.

74.9

82.6

87.5

91.9

Free Cash Flow			36.5	37.0	43.9	47.1
PVIF at 11% [PVIF = 1/1.11^n]			0.90090	0.81162	0.73119	0.65873
PV at 11%			32.9	30.1	32.1	31.0
Sum of PV of FCF t1 to t4		126.1
Continuing value of free cash flow = 47.1*1.032/(0.11-0.032) =						623.17
PV of continuing value = 623.17*0.65873 =		410.5
PV of FCF		536.6
Add: Cash		48.0
Value of the firm		584.6
Less: Debt		124.0
Value of equity		460.6
Number of shares in millions		70.0
Value of one share		$             6.6

​Less: Increase in NWC

4.2

5.8

3.7

3.3

Free Cash Flow			27.4	27.5	32.6	34.9
PVIF at 11% [PVIF = 1/1.11^n]			0.90090	0.81162	0.73119	0.65873
PV at 11%			24.7	22.3	23.9	23.0
Sum of PV of FCF t1 to t4		93.8
Continuing value of free cash flow = 34.9*1.032/(0.11-0.032) =						461.75
PV of continuing value = 461.75*0.65873 =		304.2
PV of FCF		398.0
Add: Cash		48.0
Value of the firm		446.0
Less: Debt		124.0
Value of equity		322.0
Number of shares in millions		70.0
Value of one share		$             4.6