Grammy phone is a cellular firm that reported a net income of $50 million in the
ID: 2718428 • Letter: G
Question
Grammy phone is a cellular firm that reported a net income of $50 million in the most recent financial year. The firm had $1 billion in debt, on which it reported interest expenses of $100 million in the most recent financial year. The firm had depreciation of $100 million for the year and capital expenditures were 200% of depreciation. The firm had a cost of capital of 11%. Assuming that there is no working capital requirement, and using a constant growth rate of 4% in perpetuity, estimate the value of the firm. Also assume that the risk premium is 5.5% and the tax rate is 40%.
Explanation / Answer
Value of firm = Free cash flow to the firm*(1 =growth rate) /(WACC-growth rate)
Free cash flow to the firm = Net income + depreciation+(interest )*(1-tax rate) - Capex
= 50 +100+(100)*(1-0.4) - 200 = 10
Value of firm = 10*(1 + 0.04)/(0.11-0.04) = 148.5714m
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