Growth Opportunities California Real Estate, Inc., expects to earn $75 million per year in...

Question

Growth Opportunities California Real Estate, Inc., expects to earn $75 million per year in perpetuity if it does not undertake any new projects. The firm has an opportunity to invest $9 million today and $5 million in one year in real estate. The new investment will generate annual earnings of $8 million in perpetuity, beginning two years from today. The firm has 14 million shares of common stock outstanding, and the required rate of return on the stock is 12 percent. Land investments are not depreciable. Ignore taxes.

a. What is the price of a share of stock if the firm does not undertake the new investment?

b. What is the value of the investment?

c. What is the per-share stock price if the firm undertakes the investment?

Q

David · Accepted Answer

a. If company continues current operations then it will not grow, so we can value company 
as the cash cow. Total value of company as cash cow is present value of future earnings 
which are perpetuity.
Cash cow value of company = C/R 
C = Earnings in perpetuity = $ 75 million 
R = Rate = 12% 
No. of Shares = 14,000,000 
Cash cow value of company = $75,000,000 / .12 
Cash cow value of company = $625,000,

Growth Opportunities California Real Estate, Inc., expects to earn $75 million per year in perpetuity if it does not undertake any new projects. The firm has an opportunity to invest $9 million today...

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