Question

A company is projected to have a free cash flow of $261 million next year, growing at a 7% rate until the end of year 3. After that, cash flows are expected to grow at a stable rate of 2.0% in perpetuity. The company's cost of capital is 11.7%. The company owes $64 million to lenders and has $33 million in cash. If it has 111 million shares outstanding, what is your estimate for its stock price

Answer 1

Stock Price = 26.08 USD per Stock.

Step-by-step explanation:

Free cash flow in next year = 261 million USD

Free cash flow in year 2 (including the growth rate) = 261 + 18.27 = 279.27 million USD (7% growth rate)

Free Cash flow in year 3 = 279.27 + 19.55 = 298.81 million USD (7% growth rate)

Free Cash flow in year 4 (2% in Perpetuity) = 298.81 + 5.97 = 304.78 million USD

Now, we have to calculate the terminal value in year 3:

Terminal value in year 3 = Free cash flow in year 4 / (Cost of Capital - Perpetual Growth)

Terminal value in year 3 = 304.78/ (0.117 - 0.02) = 3142.06 million USD.

In order to calculate the stock price of the company, we need to find the value of the firm first.

Value of Firm:

`(261)/(1.117)` +
`(279.27)/((1.117)^(2) )` +
`(298.81)/((1.117)^(3) )` +
`(3142.06)/((1.117)^(3) )`

233.66 + 223.82 + 214.40 + 2254.52

Value of the firm = 2926.4 million USD

Now, it is time to calculate the stock price of the company.

Stock price = (Value of the firm - Debt + Cash ) ÷ Number of Shares

Stock Price = (2926.4 - 64 + 33) ÷ 111

Stock Price = (2895.4) ÷ 111

Stock Price = 26.08 USD per Stock.