Question

Clarksville Corp's EPS next year (EPS1) will be $5.14. The firm has a payout ratio of 0.9 and it reinvests the remainder of earnings in new projects. If the new projects have expected return of 14% and investors require a rate of return is 13.7%, what is the present value of the firm's growth opportunities? Round your answer to the nearest penny.

Answer 1

The present value of the firm's growth opportunities is approximately -$171.33 million.

Step-by-step explanation:

To find the present value of the firm's growth opportunities, we need to calculate the present value of the future cash flows generated by these projects. Given that the payout ratio is 0.9, it means that the firm retains 10% of its earnings. The present value of these retained earnings can be calculated using the formula: PV = CF / (r - g), where CF is the cash flow, r is the required rate of return, and g is the expected return on the new projects.

In this case, the cash flow is 10% of the earnings, which is 0.1 * $5.14 = $0.514. Plugging in the values, we have PV = $0.514 / (0.137 - 0.14) = $0.514 / -0.003 = -$171.33 million.

Therefore, the present value of the firm's growth opportunities is approximately -$171.33 million.