Question

Marshall Law firm expects to generate free-cash flows of $200,000 per year for the next five years. Beyond that time, free cash flows are expected to grow at a constant rate of 5 % per year forever. If the firm's weighted average cost of capital is 15 %, the market value of the firm's debt is $500,000, the market value of its preferred stock is $200,000 and the firm has a half million shares of common stock outstanding, what is the value of its common stock?

Please solution step by step

Answer #1

Cash flows after 6th year= CF* (1+g)= 200,000 *(1+0.05)=
**210000**

Terminal cash flow >= year 5= FCF/ (r-g) = 210000 /
(0.15-0.05) = **2100,000**

Discounting the terminal cash flow to present =
2100000/(1+0.15)^15 = **1044071.144**

Present value cash flow for 1 to 5 years is 200000*PVIFA(15%,5
Years) = 200000*(3.352155098) = **670431.0196**

Total PV= Present value cash flow for 1 to 5 years + terminal
cash flow = 1044071.144+670431.0196 **=**
**1714502.1636**

**Value of equity =** (Total PV- Debt)/ Shares
outstading = (1714502.1636- 500000 )/ 500000

Hence value of share = 2.4290043272

SImply **VPS of Marshall Law firm** **=
$2.43**

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