The Sanford Software Co. earned $20 million before interest and taxes on revenue

Question

The Sanford Software Co. earned $20 million before interest and taxes on revenues of $60 million last year investment in fixed capital was $12 million, and depreciation was $8 million. Working capital investment was $3 million. Sanford expects earnings before interest and taxes (EBIT), Iinvestment in fioxed and working capital, depreciation, and sales to grow at 12% per year for the next five years. After five years, the growth in sales, EBIT, and working capital investment will decline to a stable 4% per year, and investments in fed capital and depreciation will offset each other, Sanford's tax rate is 40%. Assume the weighted average cost of capital (WACC) 611% during the high growth stage and 8% during the stable stage. The calculation of FCFF in years 1 through 5 is shown in the following table saved 75.26 25.09 15.05 10.04 15.05 3.76 94.41 31.47 67.20 22.40 13.44 8.95 105.74 5.25 21.15 14.10 84.30 60.00 20.00 EBIT EBIT IT) 12.00 FCInw 102722 8.00 12.00 3.00 16.86 11-24 16.96 4.21 12.59 18.88 4.72 5.60 FOFF in year 6 is closest to: $12.03 $14.14 $16 49 $18.26 Nothing to Save 5 6

Explanation / Answer

$16.49

Working shown below. As Depreciation and FCInv cancel out each other starting year 6, I have taken it directly as 0.

Year 5 Year 6 Sales 105.74 109.9696 EBIT 35.25 36.66 EBIT*(1-Tax Rate) 21.15 21.996 WC 5.29 5.5016 FCFF 16.4944 Formula Used = EBIT*(1-T)+Depreciation-FCInv-WCInv

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