Dynamo Company produces annual cash flows of $150 and is expected to exist forever. The company is currently financed with 75 per cent equity and 25 per cent debt. Your analysis tells you that the appropriate discount rates are 10 per cent for the cash flows, and 7 per cent for the debt. You currently own 10 per cent of the shares. M&M Proposition 1: How much are your cash flows today?
A) $12.38
B) $15
C) $11.25
D) $150

Question

Quizplus · Accepted Answer

The correct answer is A. $12.38.The value of your cash flows today is the present value of the cash flows, discounted at the appropriate rate. The present value of the cash flows is $150 / 0.10 = $1,500. Your share of the cash flows is 10%, so the value of your cash flows today is $1,500 * 0.10 = $12.38.

Dynamo Company Produces Annual Cash Flows of $150 and Is