Response to the following problem:
The following table shows the projected free cash flows of an acquisition target. The potential acquirer wants to estimate its maximum acquisition price at an 8 percent discount rate and a terminal value in year 5 based on the perpetual growth equation with a 4 percent perpetual growth rate.
|
Year
|
1
|
2
|
3
|
4
|
5
|
|
Free cash flow
|
-$800
|
-$400
|
$O
|
$200
|
$700
|
a. Estimate the target's maximum acquisition price.
b. Estimate the target's maximum acquisition price when the discount rate is 7 percent and the perpetual growth rate is 5 percent.
c. What is the percentage change in the maximum acquisition price when the discount rate is reduced one percentage point and the perpetual growth rate is increased one percentage point?