You have been asked to estimate the value of General Communications, a telecomm

Question

You have been asked to estimate the value of General Communications, a telecomm firm. General Communications has a debt to capital ratio of 30%, a beta of 1.10 and a pre-tax cost of debt of 7.5%. The firm had earnings before interest and taxes of $ 600 million in 1998, after depreciation charges of $ 300 million. The firm had capital expenditures of $ 370 million, and non-cash working capital increased by $ 50 million during 1998. The firm also had a book value of capital of $ 2 billion at the beginning of 1998. (The treasury bond rate is 5%, the market risk premium is 6.3% and the firm has a tax rate of 40%). Assuming that the firm is in stable growth, and that the return on capital and reinvestment rates from 1998 can be sustained forever, estimate the value of the firm.

Explanation / Answer

Return on Capital in 1998 = 600 (1-.4)/2000 => 18%

Reinvestment Rate in 1998 = (370-300+50)/370 = 0.3243

Expected Growth Rate = 18% (.3243) => 5.84%

Cost of Equity = 5% + 1.1 (6.3%) = 0.1193

Cost of Capital = 11.93% (.7) + 7.5% (1-.4) (.3) => 9.70%

FCFF = EBIT (1-t) - (Cap Ex - Depreciation) - Chg in WC = 360 - (370-300) - 50 = 240

Firm Value = 240*1.0584/(.097-.0584) = $6580 Million

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