Question

Assume an interest rate of 5% and the future firm’s profit growth rate of 3%. Given that current profits are $150 million, then

What's the value of the firm?

What's the value of the firm after paying dividends equal to its current profits?

Please show calculations.

Answer 1

1)

What's the value of the firm

=(current profit*(1+g))/(r-g)

=(150*(1+3%))/(5%-3%)

=7725 million

2)

when a firm pays dividend=current profits, that means plowback ratio is 0% which means growth rate will be=0%

What's the value of the firm after paying dividends equal to its current profits

=(current profit*(1+g))/(r-g)

=(150*(1+0%))/(5%-0%)

=3000 million

the above is answer..