CSN reported net income of $100 million last year. CSN expects net income to gro
ID: 2725792 • Letter: C
Question
CSN reported net income of $100 million last year. CSN expects net income to grow at 7% next year, at 5% in the following year, and then at a constant rate of 3.5% per year forever. CSN expects that its current ROE will remain constant forever. CSN has a book value of equity of $1,000 million and a book value of debt of $1,500 million. CSN’s industry has a cost of equity of 6.5%, has a book value debt to equity ratio of 0.50, has a tax rate of 35%, and has a cost of debt of 4.75%. CSN has a tax rate of 40% and has a cost of debt of 5.25%. CSN has 50 million shares outstanding. Find CSN’s stock price using the FCFE method.
Explanation / Answer
Industry D/E=0.50 Cost of equity Industry=Cost of Geared Equity =kG=6.5% Industry Cost Of debt =4.75%=kD Tax rate T=35% Assume cost of ungeared equity =kUG kUG=kG-[(1-T)*D/E*(kUG-kD)] =0.065-0.65*0.50*(kUG-0.0475) =0.065-0.33kUG+0.0154 1.33kUG=0.0804 kUG =6.048% So Cost of ungeared equity =6.048% in CSN D/E=1.5 Cost of Debt =kD=5.25% Tax Rate T=40% Regeariing equity for CSN: Assume CSN equity cost =kG kG=kUG+[(1-T)*D/E*(kUG-kD)] =0.06048+0.60*1.50*(0.06048-0.0525) =0.06048+0.0072 =6.77% So CSN cost of Equity =6.77% All Amt in million $ Free cash flow to Eqiuty Year 1 Year 2 Year 3 Net Income 100 107 112 Terminal Value of Equity at Year 3=112*1.035/(0.0677-0.035)= 3,556 Total FCFE= 100 107 3,668 PV factor @6.77% 0.937 0.877 0.822 PV of FCFE 93.66 93.86 3,013.89 Sum of PV of FCFE = $ 3,201.41 million No of shares outstanding 50 million Stock price per share = $ 64.03 per share