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Complete Question:
The net present value of future growth opportunities (NPVGO)will contribute to an above average P/E multiple when the additional share value created is
A) positive and the return on new investment is lower than the cost of equity capital.
B) positive and the return on new investment is greater than the cost of equity capital.
C) negative and the return on new investment is lower than the cost of equity capital.
D) negative and the return on new investment is greater than the cost of equity capital.
Answer:
The net present value of future growth opportunities (NPVGO)will contribute to an above average P/E multiple when the additional share value created is
B) positive and the return on new investment is greater than the cost of equity capital.
Explanation:
A firm can determine the net present value of growth opportunities (NPVGO) by calculating the net present value of all future cash flows involving projects with growth opportunities. The NPVGO provides an alternative way of thinking about stock valuations and can be determined by comparing the return on investment with the investment cost. The NPVGO determines the per-share value of these growth opportunity projects in order to ascertain the firm's actual value.
NPVGO will contribute to an above average P/E multiple when the additional share value created is positive and the return on new investment is greater than the cost of equity capital.
The net present value of future growth opportunities is the present value of opportunities to reinvest future earnings of a firm in a profitable venture.
The determinants of net present value of future growth opportunities
- Opportunities of profitable investments in the future.
- Real options: the ability to modify investments to suit new information and circumstance
Here are the options of this question:
A) positive and the return on new investment is lower than the cost of equity capital.
B) positive and the return on new investment is greater than the cost of equity capital.
C) negative and the return on new investment is lower than the cost of equity capital.
D) negative and the return on new investment is greater than the cost of equity capital.
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