Using the free cash flow valuation model to price an IPO Assume that you have an opportunity to buy the stock of CoolTech, Inc., an IPO being offered for $12.50 per share. Although you are very much interested in owning the company, you are con- cerned about whether it is fairly priced. To determine the value of the shares, you have decided to apply the free cash flow valuation model to the firms financial data that youve developed from a variety of data sources. The key values you have com- piled are summarized in the following table.

year: 2016 2017 2018 2019 FCFt 700,000 800,000 950,000,1,100,000 Other data Growth rate of FCF, beyond 2019 to infinity 5 2% Weighted average cost of capital = 8% Market value of all debt 5 $2,700,000 Market value of preferred stock = $1,000,000 Number of shares of common stock outstanding =1,100,000

a. Use the free cash flow valuation model to estimate CoolTechs common stock value per share.

b. Judging on the basis of your finding in part a and the stocks offering price, should you buy the stock?

c. On further analysis, you find that the growth rate in FCF beyond 2019 will be 3% rather than 2%. What effect would this finding have on your responses in parts a and b?