Question

Barrett Industries invests a large sum of money in R&D; as a result, it retains and reinvests all of its earnings. In other words, Barrett does not pay any dividends, and it has no plans to pay dividends in the near future. A major pension fund is interested in purchasing Barrett's stock. The pension fund manager has estimated Barrett's free cash flows for the next 4 years as follows: $3 million, $6 million, $10 million, and $15 million. After the fourth year, free cash flow is projected to grow at a constant 7%. Barrett's WACC is 12%, the market value of its debt and preferred stock totals $60 million, and it has 10 million shares of common stock outstanding.

a) What is the present value of the free cash flows projected during the next 4 years? b) What is the firm's horizon, or continuing, value? c) What is the firm's total value today? d) What is an estimate of Barrett's price per share?

Answer 1

Answer with working is given below

a) Present Value of Free cash flows PV factor Discounted $Mn Year At 12% FCF $3.00 $2.68 $4.78 Year 1 0.893 $6.00 Year 0.797 $10.00 $7.12 Year 3 0.712 $15.00 $9.53 Year 4 0.636 $24.11 Continuing Value Free Cash flow (1+g) b) WACC- growth rate $16.05 $321.00 5.00% Total value of the firm ($ Mn) c) Discounted free cash flow Terminal Value Total Value of the Firm $24.11 $321.00 $345.11 Less: Market value of Debt and preferred stock Value of Equity $60.00 $285.11 Number of Outstanding stock (In Million) 10.00 Price per Share $28.51 d)