Purchase Solution

Estimating the fair value of a firm

Not what you're looking for?

Ask Custom Question

You are evaluating the potential purchase of a small business currently generating $42,500 of after-tax cash flow (D=42,500). On the basis of a review of similar-risk investment opportunities, you must earn an 18% 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 7% 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 7% from year 3 to infinity?

Purchase this Solution
Solution Summary

Solution describes the steps to estimate the firm's value under different conditions/assumptions.

Solution Preview

a. What is the firm's value if cash flows are expected to grow at an annual rate of 0% from now to infinity?

Growth Rate=g=0%
Required rate of return=r=18%
Current Cash Flow=Do=$42500
Value of firm=Do*(1+g)/(r-g)=42500*(1+0%)/(18%-0%)=$236,111.11

b. What is the firm's value ...

Solution provided by:
Lokesh Jain, MSc
Education
  • BEng (Hons) , Birla Institute of Technology and Science, India
  • MSc (Hons) , Birla Institute of Technology and Science, India
Recent Feedback
  • "Thank you"
  • "Really great step by step solution"
  • "I had tried another service before Brain Mass and they pale in comparison. This was perfect."
  • "Thanks Again! This is totally a great service!"
  • "Thank you so much for your help!"
Purchase this Solution
Free BrainMass Quizzes
Economic Issues and Concepts

This quiz provides a review of the basic microeconomic concepts. Students can test their understanding of major economic issues.

Pricing Strategies

Discussion about various pricing techniques of profit-seeking firms.

Economics, Basic Concepts, Demand-Supply-Equilibrium

The quiz tests the basic concepts of demand, supply, and equilibrium in a free market.

Elementary Microeconomics

This quiz reviews the basic concept of supply and demand analysis.

Basics of Economics

Quiz will help you to review some basics of microeconomics and macroeconomics which are often not understood.

View More Free Quizzes
Related BrainMass Solutions

  • The importance of corporate valuation in the M&A process

    The fair market value of Target Company’s tangible assets is $15.00 million and the fair market value of its intangible assets is $10 million. The fair market value of assumed liabilities is $5 million.

  • FASB No. 157, Fair value accounting

    What is important is that the detail with which the FASB Statement No. 157 describes the method of estimating the fair value makes the problem of reproducibility less important.

  • Fair Value Accounting for USA GAAP financial statement

    We conclude that in light of the disadvantages like the extent to which Fair Value Accounting can be used o manipulate earnings, the extent to which there can be difficulties in estimating the fair value, and the costliness of estimating fair value, Fair

  • Estimating the fair value of a bond

    468347 Steps to Estimating the Fair Value of a Bond Find the value of a semiannual coupon bond with a face value of $1000, with an annual coupon rate of 15 percent, and with 24 years remaining until maturity, and with an annual interest rate (Yield to

  • Estimating the Fair Value of a Preferred Stock

    587740 Estimating the Fair Value of a Preferred Stock The preferred stock of the Clarence Radiology Company has a par value of $100 and a $9 dividend rate. You require an 11 percent rate of return on this stock.

  • Estimating price of a bond

    Solution describes the steps for estimating fair value of a coupon paying bond.

  • Capital Budgeting Process Descriptions

    and monitoring the selected investment projects estimating a fair rate of return on each investment given its risk.

  • Valuation and Leverage and Estimating Value

    Explore how the financing decision of the firm can affect both the cost of capital and the set of cash flows that we discount. Estimating value 2. Discuss the approach to estimate the value of investment.

  • Accounting - Theoretical and Practical Questions

    What are two ways in which estimating uncollectible accounts improves the accuracy of the financial statements? 6. Mia-Tora Company purchased a fast-food restaurant for $1,400,000. The fair market vales of the assets purchased were as follows.

  • Firm uses its company cost of capital to evaluate all projec

    425923 Suppose a firm uses its company cost of capital to evaluate all projects. Will it underestimate or overestimate the value of high-risk projects? Suppose a firm uses its company cost of capital to evaluate all projects.

View More Related Solutions