Ginger Ale had sales of $980 million in 2013. Suppose you expect its sales to gr

Question

Ginger Ale had sales of $980 million in 2013. Suppose you expect its sales to grow at a 8% rate in 2014, but that this growth rate will stay at the long-run growth rate for the apparel industry of 5% from 2015. Based on Ginger's past profitability and investment needs, you expect EBIT to be 9% of sales. Net capital expenditure (=capital expenditure - depreciation) to be 8% of any increase in sales, and increases in networking capital requirements to be 10% of any increase in sales. The invested capital (=long-term debt + equity - cash) is expected to S450 million in 2015. If Ginger has $580 million in cash, the current market value of debt of $160 million, 30 million shares outstanding, a tax rate of 35%, and a weighted average cost of capital of 10%, what is your estimates of enterprise, firm and stock in early 2014 (=at the end of 2013)? Assume that the cash is non-operating.

Explanation / Answer

Sales for 2014 = 980 million x (1+0.08)

                                = 1058.40 million

EBIT 2014 = 1058.40 million x 9%

                     = 95.256 million

Net capital expenditure 2014= (1058.40 million- 980million) x 8%

                                                         = 6.272 million

Net working capital 2014 = (1058.40 million- 980million) x 10%

                                                   = 7.84 million

Free cash flow 2014= EBIT ( 1-t) –Net capital expenditure – net working capital

                             = 95.256 million x (1-0.35) – 6.272 million – 7.84 million

                                = 47.8044 million

Value of firm at the end of year 2014 = FCF 2014 x (1+g)/ (R-g)

                                                                          = 47.8044 million x (1+0.05)/ (0.10-0.05)

                                                                          = 1003.8924 million

Value of firm at the end of 2013 would be the sum of PV of free cash flow at the end of 2014 and PV of firm at the end of 2014.

PV= FV/ (1+r)^n

PV= (1003.8924 million + 47.8044 million)/ (1+0.10)^1

     = 956.088 million

Therefore, enterprise value is PV – cash balance.

Enterprise value = 956.088 million -580 million

                                = 376.088 million

Shareholders equity = value of firm – debt

                                        = 956.088 million – 160 million

                                        = 796.088 million

Value of stock = shareholder’s equity / shares outstanding

                                = 796.088 million / 30 million

                                = 26.54 million

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