Problem 22-1 Valuation Hastings Corporation is interested in acquiring Vandell C

Question

Problem 22-1
Valuation

Hastings Corporation is interested in acquiring Vandell Corporation. Vandell has 1 million shares outstanding and a target capital structure consisting of 30% debt. Vandell's debt interest rate is 7.4%. Assume that the risk-free rate of interest is 6% and the market risk premium is 4%. Both Vandell and Hastings face a 35% tax rate.

Vandell's free cash flow (FCF0) is $2 million per year and is expected to grow at a constant rate of 6% a year; its beta is 1.60. What is the value of Vandell's operations? (Hint: Use the corporate valuation model.) Round your answer to two decimal places. Do not round intermediate calculations.
$    million

If Vandell has $11.17 million in debt, what is the current value of Vandell's stock? (Hint: Use the corporate valuation model.) Round your answer to the nearest cent. Do not round intermediate calculations.
$   /share

Explanation / Answer

Required rate of return = rf + Beta * Market premium = 6% + 1.6 * 4% = 12.40%

WACC = 0.30 * 0.074 * (1 - 0.35) + 0.70 * 0.124 = 10.12%

the value of Vandell's operations = $2 / 10.12% = $19.76 m

If Vandell has $11.17 million in debt, the current value of Vandell's stock=

= ($19.76 m - $11.17 m) / 1 m shares = $8.59 per share

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