Using free cash flow to the firm model, estimate the value of highway limited. Q

Question

Using free cash flow to the firm model, estimate the value of highway limited.

QUESTION THREE As a student of corporate valuation, you have been given the task of estimating the fundamental value of Highway Limited, giventhw You have been provided with the following schedules. 2015 (Actual) Shs' Million 100 70 40 2016 (Projected) Ordinary share capital Retained Earning 10% Debt Shs' million 100 150 Schedule 2: Income Statement Schedule 2015 (Actual)2016 (Pro Sh' milliorn 600 150 Sh' million Revenue Cost of sales Other operating expenses Depreciation 300 250 190 (60) 390 (70) 320 Interest expense Earnings before tax Tax expenses Earning After tax 314 186 (55.8) 130.2 219.8 2015 (Actual) Sh'million 2016 (Projected) Sh' millior 60 70 Depreciation Schedule 4: Working Capital Items 2016 (Projected) Sh' million Cash Accounts Receivable Inventory Account Payables Accruals Notes Payable 2015 (Actual) Sh' million 10 15 35 20 10 50 10 5) 2) C37

Explanation / Answer

Value of Highway Limited using FCFF model = Present Value of Free Cash Flow for next eleven years (Note 1) + Present Value of Free Cash Flow of 12th year onwards today (Note 2) = 1732.82 + 7,018.96 = 8,751.78 Note 1 : Present Value of FCF for next eleven years Year FCF (Note 3) FCF at 1st year end @ 5% Growth Rate DF @ 8% Discounted FCF 1                                                        185.80                                                                   195.09 0.926                   180.64 2                                                        195.09                                                                   204.84 0.857                   175.62 3                                                        204.84                                                                   215.09 0.794                   170.74 4                                                        215.09                                                                   225.84 0.735                   166.00 5                                                        225.84                                                                   237.13 0.681                   161.39 6                                                        237.13                                                                   248.99 0.630                   156.91 7                                                        248.99                                                                   261.44 0.583                   152.55 8                                                        261.44                                                                   274.51 0.540                   148.31 9                                                        274.51                                                                   288.24 0.500                   144.19 10                                                        288.24                                                                   302.65 0.463                   140.18 11                                                        302.65                                                                   317.78 0.429                   136.29 Present Value of FCF for next eleven years                1,732.82 Note 2 : Present Value of FCF from 12th year onwards today = [FCF at 12th year end / Discount factor - growth rate] * Discount factor @ 8% of 11th year end = [317.78 * (1.03) / 5% - 3%] * 0.429 =                                                    7,018.96 Note 3 : Calculation of FCFF for the year 2016 EBIT                                                                   320.00 less : Tax Expense                                                                     94.20 Earnings before Interest after Tax                                                                   225.80 Add: Non Cash Expense : Depreciation                                                                     70.00 Less : Capital Expenditure (Note 4)                                                                   100.00 Less : Change in Working Capital (Note 5)                                                                     10.00 Free Cash Flow to Firm                                                                   185.80 Note 4 : Calculation of Capital Expenditure Increase in Fixed Assets : Purchase of new machinery (250 - 200) 50 Purchase of new equipment (150 - 100) 50 Capital Expenditure 100 Note 5 : Change in Working Capital Change in Current Assets : 2015 2016 Net Change in Current Assets Cash 10 20 10 Accounts Receivable 15 10 -5 Inventory 35 50 15 Total 60 80 20 Change in Current Liabilities : 2015 2016 Net Change in Current Liabilities Accounts Payables 5 10 5 Accruals 2 5 3 Notes Payable 1 3 2 Total 8 18 10 Change in Working Captial = Net change in Current Assets minus Net change in Current Liabilities = 20 - 10 = 10

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