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a. What is the firm's value if cash flows are expected to grow at an annual rate of 0% from now to infinity? b. What is the firm's value if cash flows are expected to grow at a constant annual rate of 6% from now to infinity? c. What is the firm's value if cash flows are expected to grow at an annual rate of 12% for the first 2 years, followed by a constant annual rate of 6% from year 3 to infinity?

a. What is the firm's value if cash flows are expected to grow at an annual rate of 0% from now to infinity? b. What is the firm's value if cash flows are expected to grow at a constant annual rate of 6% from now to infinity? c. What is the firm's value if cash flows are expected to grow at an annual rate of 12% for the first 2 years, followed by a constant annual rate of 6% from year 3 to infinity?

Essentials Of Investments
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Free cash flow valuation You are evaluating the potential purchase of a small business with no debt or preferred stock that is currently generating $42,300 of free cash flow (FCF = $42,300). On the basis of a review of similar-risk investment opportunites, you must earn a(n) 19% rate of return on the proposed purchase. Because you are relatively uncertain about future cash flows, you decide to estimate the firm's value using several possible assumptions about the growth rate of cash flows. a. What is the firm's value if cash flows are expected to grow at an annual rate of 0% from now to infinity? b. What is the firm's value if cash flows are expected to grow at a constant annual rate of 6% from now to infinity? c. What is the firm's value if cash flows are expected to grow at an annual rate of 12% for the first 2 years, followed by a constant annual rate of 6% from year 3 to infinity? a. The firm's value, if cash flows are expected to grow at an annual rate of 0% from now to infinity, is $ (Round to the nearest cent.)
Transcribed Image Text:Free cash flow valuation You are evaluating the potential purchase of a small business with no debt or preferred stock that is currently generating $42,300 of free cash flow (FCF = $42,300). On the basis of a review of similar-risk investment opportunites, you must earn a(n) 19% rate of return on the proposed purchase. Because you are relatively uncertain about future cash flows, you decide to estimate the firm's value using several possible assumptions about the growth rate of cash flows. a. What is the firm's value if cash flows are expected to grow at an annual rate of 0% from now to infinity? b. What is the firm's value if cash flows are expected to grow at a constant annual rate of 6% from now to infinity? c. What is the firm's value if cash flows are expected to grow at an annual rate of 12% for the first 2 years, followed by a constant annual rate of 6% from year 3 to infinity? a. The firm's value, if cash flows are expected to grow at an annual rate of 0% from now to infinity, is $ (Round to the nearest cent.)
Free cash flow Year (t) 1 234 FCF $730,000 $880,000 $1,000,000 $1,150,000 Other data Growth rate of FCF, beyond year 4 = 5% Weighted average cost of capital = 9% Market value of all debt = $4,880,000 Market value of preferred stock = $1,950,000 Number of shares of common stock outstanding = 1,100,000
Transcribed Image Text:Free cash flow Year (t) 1 234 FCF $730,000 $880,000 $1,000,000 $1,150,000 Other data Growth rate of FCF, beyond year 4 = 5% Weighted average cost of capital = 9% Market value of all debt = $4,880,000 Market value of preferred stock = $1,950,000 Number of shares of common stock outstanding = 1,100,000
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