Dividend Discount Model Problems -Students PDF

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Dividend Discount Model_Problems 1. Jill Smart is an analyst with Allenton Partners. Jill is reviewing the valuation of three companies (P, Q, and R) using the dividend discount model (DDM) and their corresponding current market prices. The information below summarizes the findings:

Based on the above information, which statement best describes the market’s valuation of P, Q, and R? A. P is overvalued, Q is undervalued, and R is fairly valued. B. P is undervalued, Q is fairly valued, and R is overvalued. C. P is undervalued, Q is overvalued, and R is fairly valued.

CASE_ Motorhomes and Three Star Travelers Use the information below to answer Questions that follow. A. Jamie Johnson, CFA, has been asked by her supervisor to evaluate the value of two stocks in the recreational vehicle industry, AAA Motorhomes (AAA) and Three Star Travelers (TST). Johnson compiled analyst information for the two companies in Table 1. The expected return on the market is 11%, and the risk-free rate is 4%. Johnson’s supervisor has requested that Johnson focus on dividends in estimating the value of the two firms. The sustainable growth rates for each firm are closest to: AAA; TST A. 18.0%; 6.6% B. 12.0%; 6.6% C. 12.0%; 15.4% B. Johnson decides to start by estimating the value of the two stocks using the constant growth dividend discount model and estimating the required rate of returns using the capital asset pricing model (CAPM). Both firms are expected to grow at their sustainable growth rates. The estimated values are closest to: AAA; TST A. $273.54; $92.77 B. $273.54; $48.57 C. $420.00; $92.77

C. Johnson believes the estimate for TST using the constant dividend discount model (DDM) is appropriate. However, she believes that AAA is expected to grow at a higher rate of 20% for the next four years and then grow at a rate of 7% after that. Using the two-stage model, and CAPM for the required rate of return, the current value of AAA is closest to: A. $45.69. B. $58.00. C. $61.62. D. After further consideration, Johnson feels the growth rates of AAA and TST are more likely to gradually decline over the next four years and therefore considers the H-model. She estimates TST growth will decline from current 15% to long-term 5% and AAA growth will decline from current 20% to long-term 7%. Johnson estimates the required rate of return for AAA and TST to be 15.3% and 12.6%, respectively. Johnson's estimated values of AAA and TST using the H-model are closest to: AAA; TST A. $15.35; $52.96 B. $24.04; $35.58 C. $24.04; $52.96 Problems 1. JCI Incorporated pays an annual dividend of 5.00 Canadian dollars (C$). The company is expected to continue paying this dividend with no future growth in dividends. Investors require a 9% rate of return on this investment. The current risk-free rate is 4%. The current stock value of JCI Incorporated is closest to: A. C$55.56. B. C$100.00. C. C$125.00. 2. The current stock price of MCD is $89.00. The current dividend for MCD is $2.50, and dividends are expected to grow at a constant rate of 8%. The implied required return for MCD is closest to: A. 3%. B. 8%. C. 11%

3. Calculating value for a two-period DDM Machines Unlimited shares are expected to pay dividends of 1.55 Canadian dollars (C$) and C$1.72 at the end of each of the next two years, respectively. The investor expects the price of the shares at the end of this 2-year holding period to be C$42.00. The investor’s required rate of return is 14%. Calculate the current value of Machines Unlimited shares. 4. Calculating value with the Gordon growth model DownUnder Financial recently paid a dividend of 1.80 Australian dollars (A$). An analyst has examined the financial statements and historical dividend policy of DownUnder and expects that the firm’s dividend rate will grow at a constant rate of 3.5% indefinitely. The analyst also determines DownUnder’s beta is 1.5, the risk-free rate is 4%, and the expected return on the market portfolio is 8%. Calculate the current value of DownUnder’s shares.

Calculating the implied growth rate using the Gordon growth model 1 5. CFCRegs, Inc., just paid a dividend of $2.00 per share. The required return is 13%, and the stock is currently trading at $30.28 per share. The growth rate implied by the Gordon growth model is closest to: A. 4%. B. 6%. C. 8%.

6. Suppose that the current price and most recent annual dividend for Aurora Mining (AM) are $24.25 and $1.10, respectively. If the required return on Aurora is 8.5%, what is the implied growth rate? 7. Calculating value with a two-stage DDM Sea Island Recreation currently pays a dividend of $1.00. An analyst forecasts growth of 10% for the next three years, followed by 4% growth in perpetuity thereafter. The required return is 12%. Calculate the current value per share. 8. Valuing a non-dividend-paying stock Arena Distributors is a new company and currently pays no dividends. The company recently reported earnings of $1.50 per share and is expected to grow at a 15% rate for the next four years. Beginning in Year 5, Arena is expected to distribute 20% of its earnings in the form of dividends and to have a constant growth rate of 5%. The required rate of return is 12%. Calculate the value of Arena shares today. 9. Calculating value with the H-model Omega Foods currently pays a dividend of €2.00. The growth rate, which is currently 20%, is expected to decline linearly over the next ten years to a stable rate of 5% thereafter. The required return is 12%. Calculate the current value of Omega. 10. Three-stage growth model with linear growth decline in stage 2 As an analyst, you have gathered the following information on a company you are tracking. The current annual dividend is $0.75. Dividends are expected to grow at a rate of 12% over the next three years, decline linearly to 4% over the next six years, and then remain at a long-term equilibrium growth rate of 4% in perpetuity. The required return is 9%. Calculate the value of the company.

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In practice, we can observe the price and current dividend for a publicly traded stock. We may be interested in either backing out the implied required return, using an assumed growth rate, or the implied growth rate, using an assumed required return....