Question #44 - Reading 21 Free Cash Flow Valuation

Reading: Reading 21 Free Cash Flow Valuation

PDF File: Reading 21 Free Cash Flow Valuation.pdf

Page: 20

Status: Correct

Correct Answer: A

Shared Context

- In Scenario 2, the value of the firm is closest to: A) $315 million. B) $346 million. C) $321 million.

Question

The market value of Schneider Inc.'s stock is:

Answer Choices:

A. $17.50 per share

B. $31.50 per share

C. $15.75 per share. Ashley Winters, CFA, has been hired to value Goliath Communications, a company that is currently experiencing rapid growth and expansion. Winters is an expert in the communications industry and has had extensive experience in valuing similar firms. She is convinced that a value for the equity of Goliath can be reliably obtained through the use of a three-stage free cash flow to equity (FCFE) model with declining growth in the second stage. Based on up-to-date financial statements, she has determined that the current FCFE per share is $0.90. Winters has prepared a forecast of expected growth rates in FCFE as follows: Stage 1: 10.5% for years 1 through 3 Stage 2: 8.5% in year 4, 6.5% in year 5, 5.0% in year 6 Stage 3: 3.0% in year 7 and thereafter Moreover, she has determined that the company has a beta of 1.8. The current risk-free rate is 3.0%, and the equity risk premium is 5.0%. Other financial information: Outstanding shares 10 million Tax rate 40.0% Interest expense $750,000 Net borrowing −$100,000

Explanation

The estimated market value of debt is $35 million, which represents 10.0% of the value of the firm. The other 90.0% is the value of equity or $315 million. $315 million/20 million shares = $15.75 per share. (Module 21.5, LOS 21.k) Ashley Winters, CFA, has been hired to value Goliath Communications, a company that is currently experiencing rapid growth and expansion. Winters is an expert in the communications industry and has had extensive experience in valuing similar firms. She is convinced that a value for the equity of Goliath can be reliably obtained through the use of a three-stage free cash flow to equity (FCFE) model with declining growth in the second stage. Based on up-to-date financial statements, she has determined that the current FCFE per share is $0.90. Winters has prepared a forecast of expected growth rates in FCFE as follows: Stage 1: 10.5% for years 1 through 3 Stage 2: 8.5% in year 4, 6.5% in year 5, 5.0% in year 6 Stage 3: 3.0% in year 7 and thereafter Moreover, she has determined that the company has a beta of 1.8. The current risk-free rate is 3.0%, and the equity risk premium is 5.0%. Other financial information: Outstanding shares 10 million Tax rate 40.0% Interest expense $750,000 Net borrowing −$100,000 Cost of debt 7.5% Debt-to-equity ratio 25.0% Estimated growth rate for the firm 4.0%

Actions

Practice Flashcards