question 1

You have recently started as an equity analyst at a large American bank. Your first task is to

make a report on the Company A. The company distributes free

local newspapers in USA. From your initial analysis, you have made the following

forecast (all in million $):

Forecasts (million $, rounded to two decimals)

	2022	2023	2024
Sales	30.00	28.00	25.00
Operating expenses	26.50	25.00	22.30
Depreciation	0.50	0.20	0.20
EBIT	3.00	2.80	2.50
Interest expenses	2.00	2.00	2.00
Tax	0.23	0.18	0.11
Net income	0.78	0.62	0.39
Capital expenditures	5.00	1.00	1.00
Net working capital	8.00	7.00	6.00

Assume that the first cash flow in column 2022 comes in one year from now, that the

growth rate in free cash flow from 2024 is 0% and that net working capital in 2021 is 10

million $.

Assume further that the risk-free rate is 2%, the expected return on the market is 5% and

that the corporate tax rate is 22.5%.

The companys cost of equity is 11%, the beta on equity is 3, the beta on debt is 0.5 and that

the company maintains a constant debttoequity ratio of 2.

State additional assumptions if needed.

Answer the following questions:

1. Calculate the asset beta of Company A and discuss what the magnitude can tell us about

the company

2. Calculate the free cash flows

3. Calculate the pretax cost of debt

4. Explain one other possible method of estimating the pretax cost of debt