Alphabet A doesnt pay dividends at the moment The Corporate

Alphabet A doesn\'t pay dividends at the moment. The Corporate Valuation model is the most appropriate model to value Alphabet A. Here\'s Free Cash Flow projection:s (in billions of S) needed to value Alphabet A as a firm Year FCF 20.2 22.5 24.5 After year 3, Alphabet A\'s free cash flow is expected to grow at a 6% constant growth rate in year 4 and beyond. Alphabet A\'s WACC is 9%. Alphabet A has $9.3 billion in debt (market value of debt) and 0.3 billion shares of common stock outstanding? What is your valuation of Alphabet A\'s common stock today? Would you recommend buying Alphabet A\'s stock today and why? Use current price in #6 to help aid your recommendation.

Solution

Alphabet A\'s intrinsic value would be determined by the sum of the present values of the firm\'s Free Cash Flows in the first three years plus the present value of the firm\'s terminal cash flows.

WACC = 9 %

PV(present value) of first three years\' FCF = 20.2/1.09 + 22.5/(1.09)^(2) + 24.5/(1.09)^(3) = $ 56.38 billion

Beginning from Year 4, FCF grows at a constant rate of 6 % perpetually.

Year FCF = 24.5 x 1.06 = $ 25.97 billion

Terminal Value (TV) of perpetual FCF = 25.97/(0.09 - 0.06) = $ 865.67 billion

PV of TV of Perpetual Terminal FCF = 865.67/(1.09)^(3) = $ 668.46 billion

Total PV of all FCFs = Firm Intrinsic Value = 56.38 + 668.46 = $ 724.84 billion approximately.

Intrinsic Value of Equity = Firm Intrinsic Value - Market Value of Debt = 724.84 - 9.3 = $ 715.54 billion

Number of Common Stock Outstanding = 0.3 billion

Intrinsic Share Price = 715.54 / 0.3 = $ 2385.13

As the current price in #6 is missing, one can recommend that if the current stock price is more than the intrinsic share price, the stock is overvalued and should not be bought. However, if the current price is less than the intrinsic share price, the stock is undervalued and should be purchased.