Hi! I need help with ONLY question 3 and 4 in the attachment, the ACME information. Please ignore the other questions. Thanks!
Extra-Credits Take-Home Exam Each question below carries 10 points. UNLIKE a timed exam, you will need to show all steps to get points for your answer. Just a final (correct) answer will carry very no points. A firm you are analyzing as a senior analyst has these forecasted free cash flows: Year Free Cash Flows in millions of $ 1 -25 2 -10 3 30 4 40 1. Steel's weighted average cost of capital is 12%. Its free cash flows will grow by 4% per year forever after year 4. It has marketable securities worth 40 million. It has total debt worth 75 million but no preferred stock. It has 5 million shares outstanding. What should be the price per share according to the Free Cash Flow model? 2. What would be Steel's price per share if the growth rate in free cash flows was 10%? The data below belongs to Acme Inc. All numbers are actual (not in thousands). Year 2014 is year zero (now) and 2015 is year 1. INCOME STATEMENT Total Revenue Cost of Revenue Gross Profit Selling General and Administrative Non Recurring Others Total Operating Expenses Operating Income or Loss Income from Continuing Operations Earnings Before Interest And Taxes Interest Expense Income Before Tax Income Tax Expense Minority Interest Net Income From Continuing Ops Net Income Depreciation Dividends Paid 1 2015 321530000 202446667 119083333 2014 324286000 204534667 119751333 54562667 58972667 1226667 10592000 52702000 1387333 10388667 49002667 52702000 49002667 218000 52484000 20696667 -1867333 29920000 29920000 10592000 6946000 164667 48838000 20700667 -764000 27373333 27373333 10388667 6217333 BALANCE SHEET Assets Current Assets Cash And Cash Equivalents Short Term Investments Net Receivables Inventory Other Current Assets Total Current Assets Long Term Investments Property Plant and Equipment Other Assets 2015 2014 6615333 23324667 9694667 3338667 42973333 23145333 151299333 5112000 8712000 25761333 10016000 4152667 48642000 22888667 143109333 6061333 Total Assets 222530000 220701333 40324000 2435333 42759333 5285333 34998667 25046667 3864667 111954667 46529333 5140667 51670000 6214667 31242000 24412000 4232000 117770667 6435333 243818000 -131555333 6341333 220626000 -117954667 -8122667 -6082000 Total Stockholder Equity 110575333 102930667 Total Stockholder Equity and Liabilities 222530000 220701333 Liabilities Current Liabilities Accounts Payable Short/Current Long Term Debt Other Current Liabilities Total Current Liabilities Long Term Debt Other Liabilities Deferred Long Term Liability Charges Minority Interest Negative Goodwill Total Liabilities Stockholders' Equity Preferred Stock Common Stock Retained Earnings Treasury Stock Other Stockholder Equity 2 3. a) Calculate the free cash flow available to all investors of Acme Inc. for the year 2015. Hint: chapter 7 uses these free cash flows but chapter 2 explains how to calculate them. b) Acme's weighted average cost of capital is 15%. Its cash flow is supposed to grow at 5% per year from 2014 onwards (constant growth from the get go). What is the value from operations for Acme Inc.? As you can see from the balance sheet, Acme has no marketable securities so its value from operations is also its total value. 4. a) If Acme Inc. has 5 million shares outstanding, what should be the price per share of its common stock according to the Free Cash Flow Valuation model? Not that Acme has no preferred stock but it has both short-term and long term debt today (2014). b) What is the book value per share for Acme and what is the price/book multiple for it? 5. Why are employee stock options always call options and never puts? What is wrong in giving put options to employees? 6. Why is it so difficult to calculate market risk premium in the real world? Why is not okay to just use historical (past) market risk premium? (Hint: read the book section on it.) 7. Why does an NPV profile of two projects cross over? When would it not cross over? 8. What is the difference between the sensitivity analysis and scenario analysis? 9. What is the difference between sunk cost and opportunity cost? Why is sunk cost ignored but opportunity cost included in project's cash flows even though you might not be paying them out of pocket in either case? 3 10. Why should you include flotation cost in calculating the cost of common stock, preferred stock, or debt? How do these costs change as a result of this inclusion? Which source of long-term capital for a firm does not cost any flotation costs? Smithy Inc. has developed a new car engine. It would cost $22 million at Year 0 to buy the equipment necessary to manufacture the server. The project would require net working capital at the beginning of each year in an amount equal to 12% of the year's projected sales; for example, NWC0 = 12%(Sales1). The engine would sell for $10,000 per unit, and Smithy Inc. believes that variable costs would amount to $5,500 per unit. After Year 1, the sales price and variable costs will increase at the inflation rate of 4%. The company's non-variable costs (fixed costs without depreciation) would be $2 million at Year 1 and would increase with inflation. The server project would have a life of 4 years. If the project is undertaken, it must be continued for the entire 4 years. Also, the project's returns are expected to be highly correlated with returns on the firm's other assets. The firm believes it could sell 1,500 units per year. The equipment would be depreciated over a 5-year period, using MACRS rates (given in the book in the solved example for chapter 11). The estimated market value of the equipment at the end of the project's 4-year life is $2 million. Smithy Inc.'s federal-plus-state tax rate is 40%. Its cost of capital is 12% for average-risk projects, defined as projects with a coefficient of variation of NPV between 0.8 and 1.2. Low-risk projects are evaluated with a WACC of 10%, and highrisk projects at 14%. 11. Calculate the net cash flows for Smithy's new project. Based on its NPV should the project be taken? 12. Calculate the MIRR of these cash flows without using Excel. Show all your intermediate steps. The cost of capital for this firm is 10%. Would you accept this project? Why? year 0 1 2 3 4 5 6 7 8 9 Cash flow -100 80 30 60 -10 -20 50 70 90 -10 4 Solution to 3a EBIT Less: Taxes Add: Depreciation Less: (Increase) / Decrease in Working Capital Less: Capex (PPE 2014-PPE2015-Dep2015) Free Cash Flow to Firm 2015 (Year 1) 52,702,000 (20,696,667) 10,592,000 (3,242,000) (18,782,000) 20,573,333 Solution to 3b WACC Constant growth FCFF in 2015 (Terminal Year) Value from operations in 2015 Value from operations in 2014 (Year 0 - Today) 2014 (Year 0) 15% 5% 20,573,333 205,733,330 178,898,548 Solution 4a Value of operations in 2014 (Today) Less: Long term debt - 2014 (Today) Less: Short term debt - 2014 (Today) Value of Equity in 2014 (Today) Outstanding shares Price per share 2014 (Year 0) 178,898,548 (6,214,667) (5,140,667) 167,543,214 5,000,000 33.51 Solution 4b Total stockholder equity in 2014 (Today) Outstanding shares Book Value per share Price / Book multiple 2014 (Year 0) 102,930,667 5,000,000 20.59 1.63
