Question

A company is expected to have free cash flows of $0.75 million next year. The weighted average cost of capital is WACC = 10.5%, and the expected constant growth rate is g = 6.4%. The company has $2 million in short-term investments, $2 million in debt, and 1 million shares. What is the stock's current intrinsic stock price?a. $17.39b. $17.84c. $18.29d. $18.75e. $19.22

Answer 1

Answer:

The stock's current intrinsic price is c. $18.29

Explanation:

Hi, by definition, the intrinsic value of a stock is defined by the present value of its future free cash flows, in our case, for the next year it will be $0.75 million and it will grow at a 6.4% rate, every year, "forever".

SInce there are $2 million in short term investment and $2 million in debt, both amounts cancel out each other therefore, all we have to do is to bring to present value the future free cash flows, as follows.

$PresentValue=\frac{FCF(1)}{WACC-g}$

So the value of all the outstanding share of the company is:

$PresentValue=\frac{750,000}{0.105-0.064} =18,292,683$

Since there are 1 million shares, each one is worth $18,292,683/1,000,000= $18.29. So the answer is c.

Best of luck.