Question

Underline Electronics had a free cash flow for FY 2018 of $2,150 (all amounts are in $000). Rand McDandy, CEO, projected a free cash flow growth of 3% per years for the next 5 fiscal years (FY2019 - FY2023). Beginning at the end of FY2023, free cash flow was expected to slow grow at only .5% in perpetuity. McDandy expected Underline Electronics cost of capital to remain constant at 6.12% until the end of the beginning of FY2024 at which point he projected the cost of capital to lower and remain at 4.25% in perpetuity. Considering this forecast he asked his CFO (you) to determine the fair market value (NPV) of the company. Choose the best answer from the list of options below.

For this question consider FY2019 as Year 1 and FY2023 as Year 5.

Answer 1

Statement showing Fair Market Value of the company

Year	Cash flow		PVIF @ 6.12%	PV = Cash flow *PVIF
2019	2150*1.03	2214.50	0.9423	2086.79
2020	2214.5*1.03	2280.94	0.8880	2025.44
2021	2349.36*1.03	2349.36	0.8368	1965.89
2022	2419.84*1.03	2419.84	0.7885	1908.09
2023	2492.44*1.03	2492.44	0.7430	1851.99
P2023 = CF2023(1+g)/Ke-g =2492.44(1.005)/4.25%-0.5% =2504.9022/3.75% =66797.392		66797.3920	0.7430	49633.32
Fair market value (NPV) of the company				59471.50

CF2023 = Cash for for year 2023 P2023 = Value of company at end of year 2023

g = growth rate during stable period = 0.5%

Ke =cost of capital during stable period= 4.25%