Problem SET 3 NS - dndnnd PDF

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PROBLEM SET 3 1. a. MF Corp. has an ROE of 16% and a plowback ratio of 50%. If the coming year’s earnings, E1, are expected to be $2 per share, at what price will the stock sell using the constant-growth DDM? The market capitalization rate is 12%. b. What price do you expect MF shares to sell for in three years? --2. The market consensus is that Analog Electronic Corporation has an ROE=9%, a beta (β) of 1.25, and plans to maintain indefinitely its traditional plowback ratio of 2/3. This year’s earnings were $3 per share. The annual dividend was just paid. The consensus estimate of the coming year’s market return (𝐸(𝑟𝑚 )) is 14%, and T-bills, which are risk-free instruments, currently offer a 6% return (𝑟𝑓 ). a. Find the price at which Analog stock should sell using the constant-growth DDM. b. Calculate the P/E ratio. c. Calculate the present value of growth opportunities. d. Suppose your research convinces you Analog will announce momentarily that it will immediately reduce its plowback ratio to 1/3. Find the intrinsic value of the stock and explain why it will change. e. The market is still unaware of this decision. Explain why V 0 no longer equals P 0 and why V0 is greater or less than P0.

--3. The FI Corporation’s dividends per share are expected to grow indefinitely by 5% per year. a. If this year’s year-end dividend is $8 and the market capitalization rate is 10% per year, what must the current stock price be according to the DDM? b. If the expected earnings per share are $12, what is the implied value of the ROE on future investment opportunities? c. How much is the market paying per share for growth opportunities (i.e., for a ROE on future investments that exceeds the market capitalization rate)? --4. Suppose that the average P/E multiple in the oil industry is 20. Non-Standard Oil Corp is expected to have an EPS of $3.00 in the coming year. What should the intrinsic value of NonStandard Oil Corp stock be? --5. You wish to earn a return of 13% on each of two stocks, X and Y. Stock X is expected to pay a dividend of $3 in the upcoming year while stock Y is expected to pay a dividend of $4 in the upcoming year. The expected growth rate of dividends for both stocks is 7%. The intrinsic value of stock X:

a) b) c) d)

will be greater than the intrinsic value of stock Y. will be the same as the intrinsic value of stock Y. will be less than the intrinsic value of stock Y. will be the same or greater than the intrinsic value of stock Y. e) None of the options are correct. Explain....