Estimate a venture's constant growth rate (g)based on the following information: terminal value = $400,000; current year's net income = $20,000; next year's expected cash flow = $25,000; and required rate of return = 20%.
A)4.00%
B)13.25%
C)7.75%
D)15.50%

Question

Quizplus · Accepted Answer

We can use the Gordon Growth Model to estimate the constant growth rate:
Terminal Value = Cash Flow at Year 2 / (Discount Rate - Constant Growth Rate)
$400,000 = $25,000 / (0.20 - g)
Solving for g, we get:
g = 0.1325 or 13.25%
Therefore, the best choice is B.

Estimate a Venture's Constant Growth Rate (G)based on the Following