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1.
Chicago Flames Fire Retardant, Inc. is expected to generate $1 billion in cash flow one year from now. If that company has a 10% cost of capital, what is that future cash flow worth today?
$909 million. $1,000,000,000/1.10 = $909,090,909, or $909 million.
2.
If a company's perpetuity value for discounted cash flow purposes is, say, $4 billion, the present value of that $4 billion will be _______.
Less than $4 billion. The present value calculation should result in a number that is less than $4 billion, since we have to discount those future cash flows back to the present to account for the time value of money.
3.
Which cost is easier to calculate?
The cost of debt. The cost of debt boils down to the interest rate a company pays to borrow money. But the cost of equity is debatable and uses more factors.
4.
What is the basic idea behind discounted cash flow?
A stock's worth is equal to the present value of all its estimated future cash flows. Discounted cash flow is ultimately what analysts use to identify a stock's intrinsic value.
5.
Suppose a company has a capital structure with 40% debt and 60% equity. If its after-tax cost of debt is 6% and the cost of equity is 10.5%, what is the company's weighted average cost of capital?
