IV (20 Points) The Buccaneer Corporation is considering the purchase of a busine

Question

IV (20 Points) The Buccaneer Corporation is considering the purchase of a business generating $42,500 in annual after tax cash flows (Do-$42,500). On the basis of review of similar-risk opportunities, they must earn at least an 18% rate of return on the purchase. Because Tiger is relatively uncertain about future cash flows, they decide to estimate the firm's value using several possible assumptions about the growth rate of the cash flows. 1.) What is the firm's value if cash flows are expected to have a zero growth rate from now to infinity 2) what is the value if the firm's cash flows grow at a constant rate of 7% from now to infinity? 3.) What is the firm's value if the cash flows are expected to grow at an annual rate rate of 12% for four years, and then a constant rate of 7% from year 5 to infinity?

Explanation / Answer

1)Firm value = D/Rs

   = 42500/.18

= $ 236,111.11

2)Firm value =D0(1+g)/(Rs-g)

   = 42500(1+.07)/(.18-.07).

   = 42500*1.07/.11

    = $ 413,409.09

3)CF1=42500(1+.12)=47600

CF2 = 47600(1+.12)= 53312

CF3=53312(1+.12)= 59709.44

CF4 = 59709.44(1+.12)= 66874.57

Terminal value at year 4 =66874.57(1+.07)/(.18-.07)

   = 66874.57*1.07/.11

= 650507.21

Firm value =[PVF18%,1*CF1]+[PVF18%,2*CF2]+...[PVF18%,4*TV]

=[.84746*47600]+[.71818*53312]+[.60863*59709.44]+[.51579*66874.57]+[.51579*650507.21]

= 40339.10+ 38287.61+ 36340.96+ 34493.23+ 335525.11

= 484,986.01

Related Questions

Navigate

• Browse (All)
• Browse I
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.