Question

Gilligan's Boat Tours Ltd. most recent free cash flow was $100,000. The company expects free cash flows to grow at 30% per year for the next three years and then be stable in future years. The company’s cost of equity (rs) is 12% and its WACC is 11%. The company has $400,000 in long-term debt and has 50,000 common shares outstanding.

a.Calculate Gilligan's Boat Tours Ltd. current common share price

b.

1. 
   
2. Below are two industry average multiples. Gilligan's Boat Tours Ltd. capital structure is significantly different than other companies in the same industry.

Industry Averages
EBITDA multiple	2.5x
P/E multiple	6.0x

Which multiple would be most suitable to use to estimate Gilligan's Boat Tours Ltd. value relative to companies in the same industry? You do not need to calculate anything, just explain briefly.

Answer 1

1. Value of the Firm=(FCF1/(1+WACC%))+(FCF2/(1+WACC%)^2)+((FCF3+Horizon value at year3/(1+WACC%)^3)

FCF1=100,000*(1+30%)=130,000

FCF2=FCF1*(1+30%)=130,000*1.3=169,000

FCF3=FCF2*(1+30%)=169,000*1.3=219,700

From then onwards, it goes at same level of 219,700 from year4 onwards. Hence, growth rate is zero.

Horizon value at year3=FCF4'/(WACC-growth rate)=219,700/(11%-0%)=1997273

Value of the Firm=(130000/(1+11%))+(169000/(1+11%)^2)+((219700+1997273)/(1+11%)^3)=117117.1+137164.2+1621031.4=1875312.7

Value of Equity=Value of Firm-Value of debt=1875312.7-400,000=1475312.7

Value of common share=Value of equity/number of shares=1475312.7/50,000=$29.51

2. If two companies capital structure is different , then we have to use Price /Earnings Multiple. EBITDA multiple=Enterprise value/EBITDA

In Enterprise value, MArket value of equity, market value of debt is considered for calculation which are components of capital structure. Therefore if the capital strcutures are different, it is not correct to consider EBITDA multiple.

Price /Earnings Multiple=Market price of share/Earnings per share. Here, in this formula, capital structure components are not considered.