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Sir as I posted this question earlier
Piko co anticipates that after making number of changes Minnow co will generate free cash flow of $6m next year. This is expected to grow by 4% per year. WACC is 12% and Ke is 15%
Calculate market value of equity of Minnow co using DCF
Solution
Business value = FCF (1+g) divided by (WACC – g)
6 / (12%-4%) = 75m
Sir in the end they are deducting 2.5m from 75m and the reason they have stated that 75 m calculated by the above formula gives the value of equity + debt, so the value of debt must be deducted from 75m to get MV of equity.
But Sir the above formula doesn’t give directly value of equity? Does it give value of equity + debt?
The free cash flow is the total available for both equity and debt (it is before interest) and discounting at the WACC then gives the total value of the business (including debt).
It is discounting the flows to shareholders (after interest) at the cost of equity, that gives the value of equity.
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