Question

Ignore your answer to question 1 and assume the long term sustainable growth rate is 7.5%. According to the perpetuity formula that uses either FCFF1 or FCFE1 in the numerator (whichever is appropriate), an activist investor who wants to purchase all 30M shares would be willing to pay approximately __________..

Answer 1

$1,310 million

Step-by-step explanation:

The computation of the stock value as per the gordan model is as follows:

Value = (FCFF × (1 + growth rate)) ÷ (required rate of return - growth rate)

where,

required rate of return or WACC is

= Cost of debt × (1 - tax rate) × weight of debt + cost of equity × weight of equity

= 12.5% ×(1 - 0.35) × 800 ÷ (800 + 400) + 22.5% × 400 ÷ (400 + 800)

= 8.125% × 800 ÷ (800 + 400) + 22.5% × 400 ÷ (400 + 800)

= 8.125% × 66.67% + 22.5% × 33.33%

= 12.9167%

Now the value is

= ($66 × (1 + 0.075) - (12.9167% - 7.5%)

= $1,310 million