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You are analyzing Delta Enterprises, a small publicly traded company with $50 million of debt outstanding, and...

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Finance

You are analyzing Delta Enterprises, a small publicly tradedcompany with

$50 million of debt outstanding, and 25 million shares, tradingat $10/share.

The firm generated $40 million in after-tax cash flows lastyear, and you esti-

mate that these cash flows will grow 2% a year in perpetuity andthat the cost

of capital for the firm is 12%.

a. Estimate a value per share for the firm, assuming it has nocash balance.

b. Now assume that you find out that a significant portion ofthe firm’s revenues

comes from one customer and that there is a 20 percent chancethat this con-

tract will be lost next year. Assuming that a lost contract willresult in a 50%

drop in the after-tax cash flows, estimate the value per sharetoday. (You can

assume that the growth rate and cost of capital will beunaffected).

Answer & Explanation Solved by verified expert
3.6 Ratings (560 Votes)
a Delta Enterprises generates 40 million in aftertax cash flows last year the cash flows are a growing perpetuity therefore the PV of a growing perpetuity can be calculated in following manner Value of firm PV of future Cash Flows Aftertax cash flow 1g k g Where Aftertax cash flow last year 40 million Cost of capital of the firm k 12 per year And perpetual growth rate of cash flow g 2 per year Therefore Value of firm 40 million    See Answer
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Transcribed Image Text

You are analyzing Delta Enterprises, a small publicly tradedcompany with$50 million of debt outstanding, and 25 million shares, tradingat $10/share.The firm generated $40 million in after-tax cash flows lastyear, and you esti-mate that these cash flows will grow 2% a year in perpetuity andthat the costof capital for the firm is 12%.a. Estimate a value per share for the firm, assuming it has nocash balance.b. Now assume that you find out that a significant portion ofthe firm’s revenuescomes from one customer and that there is a 20 percent chancethat this con-tract will be lost next year. Assuming that a lost contract willresult in a 50%drop in the after-tax cash flows, estimate the value per sharetoday. (You canassume that the growth rate and cost of capital will beunaffected).

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