1. In 10 years, a firm will have annual cash flows of $100 million. Thereafter, its cash flows will grow at the inflation rate of 3%. If the applicable interest rate is 8%, estimate its value if you will sell the firm in 10 years? What would this be worth today? Show your work.

[Hint: Constant growth cash flow present value formula ==> PV(0) = CF(1)/(k-g) * [ 1 [(1+g)/(1+k)]^n] ], where PV(0) = present value, CF(1) = cash flow period 1, k = discount rate, g = growth rate, n = number of periods]

2. In 2000, the P/E ratio of the stock market reached about 45. If you assume that these corporations will grow roughly at the overall economys (GDP) growth rate of 4-5% per year, what should investors have reasonably expected in terms of a likely future rate of return implied by the stock markets level? Show your work.

[Hint: Start with the same formula above, then assume n ==> infinity (because stock market is perpetual) and evaluate what [ 1 [(1+g)/(1+k)]^n ] should be ==> you should arrive at the Dividend Discount Growth model (or Gordon-Growth formula). Dividing PV(0) by CF(1) gives you the P/E ratio ==> solve for k! Repeat calculations for both GDP 4% and 5%.]

3. An insurance company offers a retirement annuity that pays $100,000 per year for 15 years, growing at an inflation-compensator rate of 3%, and sells for $806,070. What is the interest rate? Show your work.

same formula as question 1