Question

A firm current free cash flow is $109,237. The company is expected to grow at 15.5%...

A firm current free cash flow is $109,237. The company is expected to grow at 15.5% in the coming year.

The financing of the company comes from the 10,000 bonds which currently traded at $879.625 and preferred stock of 50,000 shares with a market price of $42 each.

The current EPS of the company is $1.89 with 750,000 common shares and has recently paid a dividend of $0.65 per share. The firm’s common stock is currently trading for $45 per share.

  1. Based on the constant growth model of dividend payment (Investors’ required rate of return is 18%), what will be the new share price of the company? Would you be willing to purchase shares of common stock in the firm?
  2. Given the free cash flow and information of preferred stock and bond, what is the share price based on this information? Investors required a return of 15.83%.
  3. What can you confirm from approaches in (a) and (b)?
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Answer #1

Market price of the share as per constant growth model

D(1+g)/Ke - g

= 0.65(1.155)/(0.18-0.155) = $30.03

Sine the price of the stock is over valued,it is not advisable to purchase the stock.

Given

Free cash flows are $109237

required rate of return = 15.83%

Market value of the firm = $109237/15.83% = $690063

50,000 common stocks are held by company

There fore price of the share is $690063/50,000 = $13.80

Approach in option a is relavant to market conditions

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