1) Investors know for sure that the CEO of firm A will undertake an investment t
ID: 1181493 • Letter: 1
Question
1) Investors know for sure that the CEO of firm A will undertake an investment that will yild $100 million profit next year and then $2 million each year after that for 10 years. They also know for sure that the CEO of firm B will undertake an investment that will yield nothing for two years and then a profit of $20 million per year for 10 years. Which company will have the higher stock price today, next year, the second year, the third year?
2)The investors in exercise 1 are surprised by firm's performance in year 5. Instead of being $20 million, the firm's profits are $40 million. What happens to firm B's stock price in year 6 and 7?
Explanation / Answer
a) in today , 1st year and second year,and third year the project A will have high stock price ie $100 milllion in 1st year, $102 in second year,and $104 in third year based on PayBack Time Method
but if we consider NPV, then Project B will have a high value
b) in year six , the stock value will be $40*(6-2)=$160 million
in 7 th year ,stock value will be $40 * 5= $200 million
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