Question
Assume that today is December 31, 2008, and the following information applies to Vermeil Airlines:
· After-tax operating income [EBIT(1 - T), also called NOPAT] for 2009 is expected to be $450 million.
· The depreciation expense for 2009 is expected to be $140 million.
· The capital expenditures for 2009 are expected to be $225 million.
· No change is expected in net operating working capital.
· Assume that all cash flows are paid and received at the end of the year.
· The free cash flow is expected to grow at a constant rate of 4% per year.
· The required return on equity is 15%.
· The WACC is 9%.
· The market value of the company's debt is $2 billion.
· 230 million shares of stock are outstanding.
Using the free cash flow approach, what should the company's stock price be today? Round your answer to two decimal places.
Explanation / Answer
Calculating the free cash flows for the year 2009: Free cash flows = NOAPT + Depreciation - Changes in net working capital - Capital expenditures = $450 + $140 - $0 - $225 = $365million Therefore, the value of free cash flows for year 2009 is $365 million Today's value of the firm is calculated as Firm value = FCF / (WACC - g) = $365,000,000 / (0.09 - 0.04) = $365,000,000 / 0.05 = $7,300,000,000 Therefore, the total value of the firm is $7,300,000,000 Let us find the market value of its equity. Total value of the firm = Market value of equity + Market value of debt Market value of equity = Total value of the firm - Market value of debt = $7,300,000,000 - $2,000,000,000 = $5,300,000,000 Therefore, the market value of equity is $5,300,000,000 To calculate the today's market price per share, we have to divide the total market value of equity by the number of common shares outstanding. Market price per share = Market value of equity / Number of shares outstanding = $5,300,000,000 / 230,000,000 = $23.04 Therefore, the market price per share value is $23.04