Remember that the primary goal of a firm is to maximize sharehoider wealth by in
ID: 2818010 • Letter: R
Question
Remember that the primary goal of a firm is to maximize sharehoider wealth by increasing the firm's intrinsic value. It is thus important to understand the impact of distributions-both in the form of dividends or stock repurchases-on the firm's value. Consider the following situation: Melanee is a financia makes the following calculations and observations: I analyst in BTR Warehousing. As part of her analysis of the annual distribution policy and its impact on the firm's value, she . The company generated a free cash flow (FCF) of $102 million in its most recent fiscal year. The firm's cost of capital (WACC) is 15%. The firm has been growing at 8% for the past six years but is expected to grow at a constant rate of 7% in the future. . The firm has 25.50 million shares outstanding . The company has $272 million in debt and $170 million in preferred stock. Along with the rest of the finance team, Melanee has been part of board meetings and knows that the company is planning to distribute $105 million, whi at this point, apart from the $105 million in short-term investments, the firm has no other n ch is invested in short-term investments, to its shareholders by buying back stock from its shareholders. Melanee also observed that, onoperating assets. using results from Melanee's calculations a selection list. nd observations, solve for the values in the following tables. Select the best answer provided in the Value Value Value of the firm's operations Intrinsic value of equity immediately prior to stock repurchase Intrinsic stock price immediately prior to the stock repurchase Number of shares repurchased Intrinsic value of equity immediately after the stock repurchase Intrinsic stock price immediately after the stock repurchaseExplanation / Answer
1) Free Cash Flow 102 Growth Rate projected 7% WACC 15% Value of Firms operation 102*1.07/(.15-.07) 1364.25 Less: Debt 272 Less: Preferred stock 170 Add: Short term investment 105 Intrinsic value of Equity prior to stock repurchase 1027.25 Intrinsic stock price prior to stock repurchase 40.2843 (1027.25/25.5) No. of share repurchased 2.60647 Intrinsic value of Equity prior after stock repurchase 922.25 Intrinsic value after repurchase 40.2843 2) This statement is TRUE because if a firm pays a dividend of $1 per share, the price per share of the firm's stock will also fall by $1 to avoid any arbritrage opportunities