Tut problems - chapter 7 - Stock Valution PDF

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Week 4 --tutorial questions: about stock valuation problems...

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Stock Valuation tutorial

7-37 Castles in the Sand generates a rate of return of 20% on its investments and maintains a plowback ratio of 0.3. Its earnings this year will be $4 per share. Investors expect a 12% rate of return on the stock. a. Find the price and P/E ratio of the firm. b. What happens to the P/E ratio if the plowback is reduced to 0.2? Why? c. Show that if plowback equals zero, the earnings-price ratio, E/P, falls to the expected rate of return on the stock.

7-31 Phoenix Industries has pulled off a miraculous recovery. Four years ago it was near bankruptcy. Today, it announced a $1 per share dividend to be paid a year from now, the first dividend since the crisis. Analysts expect dividends to increase by $1 a year for another 2 years. After the third year (in which dividends are $3 per share) dividend growth is expected to settle down to a more moderate long-term growth rate of 6%. If the firm’s investors expect to earn a return of 14% on this stock, what must be its price?

7.33 - Better Mousetraps has come out with an improved product, and the world is beating a path to its door. As a result, the firm projects growth of 20% per year for 4 years. By then, other firms will have copycat technology, competition will drive down profit margins, and the sustainable growth rate will fall to 5%. The most recent annual dividend was DIV0 = $1 per share. a. What are the expected values of: (i) DIV1, (ii) DIV2, (iii) DIV3, and (iv) DIV4? b. What is the expected stock price 4 years from now? The discount rate is 10%. c. What is the stock price today? d. Find the dividend yield, DIV1/P0. e. What will next year’s stock price, P1, be? f.

What is the expected rate of return to an investor who buys the stock now and sells it in 1 year?

Stock Valuation tutorial

***This question is from another text book Storico Co. just paid a dividend of $3.15 per share. The company will increase its dividend by 20 percent next year and then reduce its dividend growth rate by 5 percentage points per year until it reaches the industry average of 5 percent dividend growth, after which the company will keep a constant growth rate forever. If the required return on the company’s stock is 12 percent, what will a share of stock sell for today?

7-20 Metatrend’s stock will generate earnings of $6 per share this year. The discount rate for the stock is 15%, and the rate of return on reinvested earnings also is 15%. Find both the growth rate of dividends and the price of the stock if the company reinvests the following fraction of its earnings in the firm: (i) 0%; (ii) 40%; (iii) 60%. a. Redo part (a) now assuming that the rate of return on reinvested earnings is 20%. What is the present value of growth opportunities for each reinvestment rate? b. Considering your answers to parts (a) and (b), can you briefly state the difference between companies experiencing growth and companies with growth opportunities?...