Luna Enterprises sells Burrata. Gross revenues last year were $3 million, and total costs were $1.5 million. Luna has 1 million shares of common stock outstanding. Gross revenues and costs are expected to grow at 5 percent per year. Luna pays no income taxes, and all earnings are paid out as dividends.
a. If the appropriate discount rate is 15 percent and all cash flows are received at year’s end, what is the price per share of Luna stock?
b. The president of Luna decided to begin a program to produce bocconcini . The project requires an immediate outlay of $15 million. In one year, another outlay of $5 million will be needed. The year after that, net cash inflows will be $6 million. This profit level will be maintained in perpetuity. What effect will undertaking this project have on the price per share of the stock?