Opex Capital is a small investment advisory firm located in Portland, Oregon, that has been hired by Winston Winery to estimate the value of Hilco Wines. Hilco is a small winery that is being considered for purchase by Winston. Opex has obtained the financial statements of Hilco and prepared the following estimates of the firm's free cash flow for the next five years:
Year 1 = $100,000 cash flows, Year 2 = $120,000 cash flows, Year 3 = $135,000 cash flows, Year 4 = $150,000 cash flows, Year 5 = $175,000 cash flows
At the end of five years, Opex has estimated that the winery should be worth approximately five times its Year 5 cash flow.
a) If the appropriate discount rate for valuing the winery is 15%, what is your estimate of the firm's enterprise value?
b) Winston Winery plans to borrow $400,000 to help finance the purchase. What is Hilco's equity worth?