Question

"MMP Incorporated generated FCF in the most recently completed year of $780,000. We expect FCF to grow by 10% in year 1, 8% in year 2 and 7% in year three. Beginning in year four, FCF will begin to grow at a constant rate of 6%. The required rate of return on this investment is 13%. MMP has debt of $2,000,000, preferred stock of $1,000,000 and 400,000 shares of common stock outstanding. What is each share of common worth today

Answer 1

The value per share of common stock today is $23.94

Step-by-step explanation:

To calculate the worth of the stock today, we first need to calculate the value of firm using FCF and then calculate the value of equity by deducting the market value of debt and preferred stock from the value of firm. Then we will divide the value of equity by the number of common stock shares.

Value of firm will be calculated using the discounted cash flows model approach. The value of firm will be,

Value of firm = 780000 * (1+0.1) / (1+0.13) + 780000 * (1+0.1) * (1+0.08) / (1+0.13)^2 + 780000 *(1+0.1)*(1+0.08)*(1+0.07) / (1+0.13)^3 +

[ 780000 *(1+0.1) *( 1+0.08) *(1+0.07) *(1+0.06)) / (0.13 - 0.06)] / (1+0.13)^3

Value of firm = $12,577,754.16

Value of equity = $12,577,754.16 - (2000000 + 1000000) = $9,577,754.159

Value per share = $9,577,754.159 / 400000

Value per share = $23.944 rounded off to $23.94