In order to simplify things, unusual items such as impairment of goodwill will be excluded from the analysis as we believe that over time the company brand equity will be recovered by the consistently great service after the acquisition of Metro PCS Communication Inc.
To forecast free cash flow, first we need to estimate the revenue growth rate, and we believe that because of the synergy gained from Metro PCS Communication Inc. the company will have a growth rate of 5% in 2013 and 2014, 4% in 2015 and 2016 and 3 % in 2017, while in the next five years the operating cost margin is estimated to be around 87%, which is the average of the past five years.
Looking from the past, effective tax rate is estimated to be around 37% in the next five years, while the average net working capital as a percentage of revenue is expected to be at around 1.3%, which is the average of the past five years.
With these forecasted data at hands, we can compute the free cash flow in the next five years as shown here.
Now we need to find the appropriate discount rate, and we use weighted average cost of capital (WACC) for this.
We use the rate of 20-year treasury bills for our risk free rate here. The pretax cost of debt is estimated to be around 6.38%, which is the average on the rates of the company’s recent bonds and notes. Equity risk premium and company…