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Homework answers / question archive / Gatekeeper Corp
Gatekeeper Corp. is a fast-growing supplier of eccentric hair products. Internal analysts project the following free cash flows (FCFS), in millions of dollars, during the next 5 years, after which FCFs are expected to grow at a constant 4% rate. Gatekeeper's WACC is estimated to be 10%. (12) Year 4 Year 5 Year 1 Year 2 Year 3 -40 30 60 a. What is the current value of operations for Gatekeeper? 80 110 b. Suppose Gatekeeper has $25 million in marketable securities, 590 million in debt, and 15 million shares of stock. What is the intrinsic price per share estimate of Gatekeeper stock today? c. Suppose the aforementioned analyst projections were done by overly optimistic internal budgeting people, and you are a cautious, skeptical analyst who thinks that the initial projections might prove to be incorrect in the following ways: Actual permanent FCF growth after year 5 is only 2.5%...Actual WACC for years 2 and 3 stays at 10%, but the WACC for years 4 and beyond is 11%... The FCF generated in Year 5 is only 100, rather than 110. How much does your intrinsic price per share estimate of Gatekeeper stock change from that you initially estimated in part b?
Part (a)
Stage 1:
| Year | Free Cash Flows | PVF @ 10% | Present value of Cash Flows |
| 1 | -40 | 0.909 | -36.36 |
| 2 | 30 | 0.826 | 24.78 |
| 3 | 60 | 0.751 | 45.06 |
| 4 | 80 | 0.683 | 54.64 |
| 5 | 110 | 0.621 | 68.31 |
| 156.43 |
Stage 2:
Cash flows are expected to grow at 4% constantly after 5 years
so, we shall compute the value of the company at 4% growth
therefore, value at year end 5 = FCFF at year end 6/ (WACC- growth rate)
where FCFF at year end 6 = FCFF5 (1+growth rate)
WACC = weighted average cost of capital
hence, it is equal to 110(1+0.04)/(0.10-0.04)
=114.4/0.06
=1906.67
Present value of value at year end 5= Value at year end 5 * PVF (10%,5)
= 1906.67*0.621
=1184.04
FInal answer : Value of the company = Stage 1 + Stage 2
=156.43+1184.04
=1340.47 Final answer
Part (b) :
| Particulars | Amount ($ Million) |
| Value of company (as computed in part (a)) | 1340.47 |
| Less : Value of debt | (90) |
| Value of Equity (A) | 1250.47 |
| Number of Equity shares (B) | 15 |
| Intrinsic value per share (A/B) | 83.36 |
Part (c) :
Since the skeptical analyst believes that the initial projections might prove incorrect so, the value of the company will be as follows :
Intrinsic value today = Stage 1 + Stage 2
Stage 1: FCFF1 *PVF (10%, 1) + FCFF2*PVF (10%,2) + FCFF3*PVF(10%,3) + FCFF4*PVF (11%,4) +
FCFF5*PVF (11%,5)
= (-40)*0.909 + 30*0.826 + 60*0.751 + 80*0.659 + 100*0.593
= (-36.36) + 24.78 + 45.06 + 52.72 + 59.3
= 145.5
Stage 2 :
Value of the company at year end 5 = FCFF6/ WACC5 - g
where FCFF6 = FCFF5 (1+g)
= 100 (1+0.025)
= 102.5
therefore, Value at year end 5 (V5) = 102.5/ (0.11-0.025)
= 1205.89
Now, present value of V5 = V5 * PVF(11%, 5)
= 1205.89 * 0.593
= 715.09
Value of the company = Stge 1 + stage 2
= 145.5 + 715.09
= 860.59
Now, calculation of revised intrinsic value per share is as follows :
| Particulars | Amount ($ Million) |
| Value of the company | 860.59 |
| Less : Value of debt | 90 |
| Value of Equity (A) | 770.59 |
| Number of Equity Shares (B) | 15 |
| Intrinsic value per share | 51.37 |
So, the revised intrinsic value per share = $ 51.37
Earlier it was $ 83.36
Change in intrinsic value = 83.36 - 51.37
=$ 31.99
