IF Ch6 # 9
The annual earnings of Avalanche Skis, Inc., will be $9 per share in perpetuity if the firm makes no new investments. Under such a situation, the firm would pay out all of its earnings as dividends. Assume the first dividend will be received exactly one year from now.
Alternatively, assume that three years from now, and in every subsequent year in perpetuity, the company can invest 30 percent of its earnings in new projects. Each project will earn 20 percent at year-end in perpetuity. The firm’s discount rate is 16 percent.
(a) What is the price per share of Avalanche Skis, Inc., stock today without the company making the new investment? (Do not include the dollar sign ($). Round your answer to 2 decimal places. (e.g., 32.16))
Price per share $ ________
(b) If Avalanche announces that the new investment will be made, what will the per-share stock price be today? (Do not include the dollar sign ($). Round your answer to 2 decimal places. (e.g., 32.16))
Share price $ _______
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