Suppose the concatenator division, which we valued based on Table 4.8, is spun off as an independent company, Concatco, with 1 million shares of common stock outstanding. What would each share sell for? Before answering, notice the negative free cash flows for years 1 to 6. The PV of these cash flows is −$3.6 million. Assume that this shortfall will have to be financed by additional shares issued in the near future. Also assume for simplicity that the $3.6 million earns interest at 10% and is sufficient to cover the negative free cash flows in Table 4.8. Concatco will pay no dividends in years 1 to 6, but will pay out all free cash flow starting in year 7.
Now calculate the value of each of the 1 million existing Concatco shares. Briefly explain your answer. Hints: Suppose the existing stockholders, who own 1’million shares, buy newly issued shares to cover the $3.6 million financing requirement. In other words, the $3.6 million comes directly out of existing stockholders’ wallets. What’s the value per share? Now suppose instead that the $3.6 million comes from new investors, who buy shares at a fair price. Does your answer change?
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