d. TTC recently introduced a new line of products that has been wildly successfu

Question

d.   TTC recently introduced a new line of products that has been wildly successful. On the basis of this       success and anticipated future success, the following free cash flows were projected: Year FCF (in millions) 1 $5.5 2 $12.1 3 $23.8 4 $44.1 5 $69.0 6 $88.8 7 $107.5 8 $128.9 9 $147.1 10 $161.3      After the 10th year, TTC's financial planners anticipate that its free cash flow will grow at a constant rate      of 6%. Also, the firm concluded that the new product caused the WACC to fall to 9%. The market value      of TTC's debt is $1,200 million, it uses no preferred stock, and there are 20 million shares of common     stock outstanding. Use the corporate valuation model approach to value the stock. INPUT DATA: (Dollars in Millions) WACC 9% gn 6% Millions of shares 20 MV of debt $1,200 Year 0               1 2 3 4 5 6 7 8 9 10 11 FCF's $5.5 $12.1 $23.8 $44.1 $69.0 $88.8 $107.5 $128.9 $147.1 $161.3 PV of FCF's PV of FCF1-10 = HV at Year 10 of FCF after Year 10 = FCF11/(WACC – gn): PV of HV at Year 0 = HV/(1+WACC)10: Sum = Value of the Total Corporation Less: MV of Debt and Preferred Value of Common Equity Number of Shares (in Millions) to Divide By: Value per Share = Value of Common Equity/No. Shares: versus using the discounted dividend model The price as estimated by the corporate valuation method differs from the discounted dividends method because different assumptions are built into the two situations. If we had projected financial statements, found both dividends and free cash flow from those projected statements, and applied the two methods, then the prices produced would have been identical. As it stands, though, the two prices were based on somewhat different assumptions, hence different prices were obtained. Note especially that in the FCF model we assumed a WACC of 9% versus a cost of equity of 10% for the discounted dividend model. That would obviously tend to raise the price. d.   TTC recently introduced a new line of products that has been wildly successful. On the basis of this       success and anticipated future success, the following free cash flows were projected: Year FCF (in millions) 1 $5.5 2 $12.1 3 $23.8 4 $44.1 5 $69.0 6 $88.8 7 $107.5 8 $128.9 9 $147.1 10 $161.3      After the 10th year, TTC's financial planners anticipate that its free cash flow will grow at a constant rate      of 6%. Also, the firm concluded that the new product caused the WACC to fall to 9%. The market value      of TTC's debt is $1,200 million, it uses no preferred stock, and there are 20 million shares of common     stock outstanding. Use the corporate valuation model approach to value the stock. INPUT DATA: (Dollars in Millions) WACC 9% gn 6% Millions of shares 20 MV of debt $1,200 Year 0               1 2 3 4 5 6 7 8 9 10 11 FCF's $5.5 $12.1 $23.8 $44.1 $69.0 $88.8 $107.5 $128.9 $147.1 $161.3 PV of FCF's PV of FCF1-10 = HV at Year 10 of FCF after Year 10 = FCF11/(WACC – gn): PV of HV at Year 0 = HV/(1+WACC)10: Sum = Value of the Total Corporation Less: MV of Debt and Preferred Value of Common Equity Number of Shares (in Millions) to Divide By: Value per Share = Value of Common Equity/No. Shares: versus using the discounted dividend model The price as estimated by the corporate valuation method differs from the discounted dividends method because different assumptions are built into the two situations. If we had projected financial statements, found both dividends and free cash flow from those projected statements, and applied the two methods, then the prices produced would have been identical. As it stands, though, the two prices were based on somewhat different assumptions, hence different prices were obtained. Note especially that in the FCF model we assumed a WACC of 9% versus a cost of equity of 10% for the discounted dividend model. That would obviously tend to raise the price.

Explanation / Answer

Solution:

(1+.09)^1

Equity Value=Firm Value- Debt Value=2806.72-1200= $1606.72

Equity value per share = 1606.72/20=$80.34

Year FCF Disc.Factor PV 1 5.5

(1+.09)^1

5.05 2 12.1 (1.09)^2 10.18 3 23.8 1.09^3 18.38 4 44.1 1.09^4 31.24 5 69 1.09^5 44.85 6 88.8 1.09^6 52.95 7 107.5 1.09^7 58.81 8 128.9 1.09^8 64.69 9 147.1 1.09^9 67.73 10 161.3 1.09^10 68.13 11 169.37 0.03*1.09^10 2384.72 Total Value of Firm 2806.72

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