Question

Using the free cash flow valuation model to price an IPO Personal Finance Problem: Assume that you have an opportunity to buy the stock of CoolTech, Inc., an IPO being offered for $5.15 per share. Although you are very much interested in owning the company, you are concerned about whether it is fairly priced. To determine the value of the shares, you have decided to apply the free cash flow valuation model to the firm's financial data that you've accumulated from a variety of data sources. The key values you have compiled are summarized in the following table:

a. Use the free cash flow valuation model to estimate CoolTech's common stock value per share.

b. Judging by your finding in part a and the stock's offering price, should you buy the stock?

c. On further analysis, you find that the growth rate in FCF beyond 2023 will be 6% rather than 5% hat effect would this finding have on your responses in parts a and b?

year fcf

2020 720,000

2021 810,000

2022 950,000

2023 1,040,000

Other Data:

Growth rate of FCF, beyond 2023 to infinity = 5%

Weighted avg cost of capital = 12%

Market Value of all debt = $2,510,000

Market value of preferred stock = $1,000,000

Number of shares of common stock issued = 1,100,000

Answer #1

Value of firm is equal to the present value of all future cash flows

= 720,000/(1.12) + 810,000/(1.12)^{2} +
950,000/(1.12)^{3} + 1,040,000/(1.12)^{4} +
1,040,000(1.05)/(1.12)^{4} (12%-5%)

= $12,539,796.24

Value of Equity = Value of firm – Value of Debt and preferred Stock

= 12,539,796.24 – 2,510,000-1,000,000

= $9,029,796.24

Value per share = 9,029,796.24/1,100,000

= $8.21

b.Yes, since price is lower than value

c.Value of firm = 14,302.299.71

Value per share = $9.81 per share

Still YES

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