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Consider a publicly traded firm which is currently financed by equity only. Due to the poor performance of the company, a group of investors plan
Consider a publicly traded firm which is currently financed by equity
only. Due to the poor performance of the company, a group of investors plan to buy
up all shares of the firm and reorganize the company to make it profitable again.
Currently, the company has shares outstanding, and the share price at the
moment is $ The firm currently has a required return on equity of For the
next five years after taking over the firm, the investors have the following estimates:
Year Year Year Year Year
Sales $M $M $M $M $M
Costs $M $M $M $M $M
Depreciation $M $M $M $M $M
Capital expenditures $M $M $M $M $M
Change in net working capital $M $M $M $M $M
Asset sales $M $M $M
After the th year, the companys cash flow is expected to grow at a rate of per
year. As part of the reorganization, the investors plan to change the capital
structure of the company as well. Namely, from the allequity capital structure
they plan to switch to a partial debt financing. In the first five years, the firm will
pay the following annual interests: $; $; $; $;
$ These correspond to an interest rate of Starting from the th year,
the firm will have a debtequity ratio of and the interest rate on debt from the
th year will be according to the forecasts. The tax rate is
Although the current stock price is $ per share, the investors are very optimistic
about the company and they are willing to pay an even higher price for the shares.
What is the highest price they should be willing to pay per share, based on their
forecasts above?
Asset sales refers to the revenue earned by selling certain fixed assets. These
are aftertax values.
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