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I. Question 1 ( Free Cash Flow Approach, past exam question ) Green Planet, Inc., a manufacturer of air filter systems for industrial facilities, is

I. Question 1(Free Cash Flow Approach, past exam question)
Green Planet, Inc., a manufacturer of air filter systems for industrial facilities, is considering
the addition of a new system to its current product line. The following data has been
forecasted:
The market value of the firm's debt is $300,000, and it has $150,000 in marketable securities.
The company also has 10,000 shares of preferred stock that pay an annual dividend of $0.75
per share. Investors require a rate of return of 7% on preferred stocks of similar risk. The firm
has 100,000 shares of common stock outstanding, and its weighted average cost of capital is
12%. The expected tax rate is 35% in the next two years and 40% after that.
a) Calculate the free cash flow for each of the next four years.
b) After 2021 the firm's free cash flow is expected to grow at 5% per year indefinitely.
What is the value of the stock today?
c) Assume that after 2021 the firm's free cash flow is expected to grow at 9% per year
for four years. After that time, the firm's free cash flow will grow at 5% indefinitely.
Using the two-stage dividend growth model, what is the value of the stock?
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