Larkspur Inc owns $25\%$ of the common shares of Blue Corp. The other $75\%$ of the shares are owned by the Blue family. Larkspur acquired the shares eight years ago through a financing transaction. Each year, Larkspur has received a dividend from Blue. Blue has been in business for $60$ years and continues to have strong operations and cash flows. Larkspur must determine the fair value of this investment at its year end. Since there is no market on which the shares are traded, Larkspur must use a discounted cash flow model to determine fair value.

Larkspur management intends to hold the shares for $5$ more years, at which time they will sell the shares to the Blue family under an existing agreement for $$1$ million. There is no uncertainty in this amount. Management expects to receive dividends of $$80,500$ for each of the five years, although there is a $20\%$ chance that dividends could be $$40,500$ each year. The risk$-$free rate is $4\%$ and the riskadjusted rate is $6\%.$

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Your Answer Correct Answer

Calculate the fair value of the investment in Blue using the traditional approach with the present value tables. $($For calculation purposes, use $5$ decimal places as displayed in the factor table provided. Round answers to $0$ decimal places, eg$.5,275.)$

Fair value of the investment

$($c$)$

Your Answer

Correct Answer

Calculate the fair value of the investment using the expected cash flow approach. $($For calculation purposes, use $5$ decimal places as displayed in the factor table provided. Round answers to $0$ decimal places, eg$.5,275.)$

Fair value of the investment

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Your Answer

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In this case, which discounted cash flow model is the best?

$$ is best.