Q1

Equity valuation (8 marks)

Your company has been hired to provide an investment advice on BGJO Corporation.

In the year just ended, BGJO Corporations revenue was $6 million, while the costs of goods sold, overhead and admin were $2 million. Depreciation was $200,000.00 and the average tax rate 35%. In addition, BGJO Corp invests 20% of its EBIT in property, plants, and equipment and working capital each year. Revenues, costs, depreciation, and investments grow at a rate of 3% until the end of year 5 after which the growth slows down to 2.5%. The cost of unleveraged cash flows is 10%, and the return required by equity holders is 14%. Debt of BGJO is $9 million, and there are 3 million shares outstanding.

a) Using Free cash flow approach, find the value of BGJO Corps share price. (4 marks)

b) Given the calculated share price, and BGJO Corporations current quoted price of $7.71 per share, what would be your investment advice for BGJO shares? Briefly explain.(1 mark)

c) BGJO Corp has been looking for ways to increase market penetration for the past few years, however the market seems saturated. As a consequence, they distribute around 45% of its earnings to shareholders in the form of dividends. Knowing this, and based on the growth rates g1 and g2 provided above, in which stage of the industry lifecycle is the industry in which BGJO operates? Support your explanation with relevant numbers. Assume remaining companies in the sector have similar characteristics to those of BGJO Corporation. (3 marks)