Download presentation

Presentation is loading. Please wait.

Published byNatasha Sharps Modified over 2 years ago

1
© 2013 Pearson Education, Inc. All rights reserved.7-1 Additional Problems with Answers Problem 1 Pricing constant growth stock, with finite horizon: The Crescent Corporation just paid a dividend of $2.00 per share and is expected to continue paying the same amount each year for the next 4 years. If you have a required rate of return of 13%, plan to hold the stock for 4 years, and are confident that it will sell for $30 at the end of 4 years, How much should you offer to buy it at today?

2
© 2013 Pearson Education, Inc. All rights reserved.7-2 Additional Problems with Answers Problem 1 (Answer) In this case, we have an annuity of $2 for 4 periods, followed by a lump sum of $30, to be discounted at 13% for the respective number of years. Using a financial calculator Mode:P/Y=1; C/Y = 1 Input:NI/Y PV PMT FV Key:413 ? 2 30 Output-24.35

3
© 2013 Pearson Education, Inc. All rights reserved.7-3 Additional Problems with Answers Problem 2 Constant growth rate, infinite horizon (with growth rate estimated from past history: Using the historical dividend information provided below to calculate the constant growth rate, and a required rate of return of 18%, estimate the price of Nigel Enterprises’ common stock.

4
© 2013 Pearson Education, Inc. All rights reserved.7-4 Additional Problems with Answers Problem 2 (Answer) g = [(1.30/0.35) 1/9 – 1] 15.7% First, estimate the historical average growth rate of dividends by using the following equation: g = [(FV/PV) 1/n – 1] Where FV = Div 2008 = $1.30 PV = Div 1999 = $0.35 n = number of years in between =9

5
© 2013 Pearson Education, Inc. All rights reserved.7-5 Additional Problems with Answers Problem 2 (Answer) (continued) Next, use the constant growth, infinite horizon model to calculate price: i.e. Price 0 = Div 1 /(r-g) = Div 0 (1+g)/(r-g) Div 0 = Div 2008 = $1.30; Div 1 = Div 0 *(1+g) =$1.30*(1.157) $1.504; r = 18%; g = 15.7% (as calculated above) Price0 = $1.504/(.18-.157) Price 0 = $65.40

6
© 2013 Pearson Education, Inc. All rights reserved.7-6 Additional Problems with Answers Problem 3 Pricing common stock with multiple dividend patterns: The Wonder Products Company is expanding fast and therefore will not pay any dividends for the next 3 years. After that, starting at the end of year 4, it will pay a dividend of $0.75 per share to its common shareholders and increase it by 12% each year until it pays $1.50 at the end of year 10. After that it will pay $1.50 per year forever. If an investor wants to earn 15% per year on this investment, how much should he pay for the stock?

7
© 2013 Pearson Education, Inc. All rights reserved.7-7 Additional Problems with Answers Problem 3 (Answer) First lay out the dividends on a time line. Expected Dividend Stream of The Wonder Products Co. T 0 T 1 T 2 T 3 T 4 T 5 T 6 T 7 T 8 T 9 T 10 … T ∞ --- $0.00 $0.00 $0.00 $0.75 $0.84 $0.94 $1.05 $1.18 $1.32 $1.50 …$1.50 Note: There are 3 distinct dividend payment patterns Years 1-3, no dividends; Years 4- 10, dividends grow at 12%; Years 11 onwards, zero-growth in dividends.

8
© 2013 Pearson Education, Inc. All rights reserved.7-8 Additional Problems with Answers Problem 3 (Answer) (continued) Next, Calculate the price at the end of Year 10, i.e. when the dividend growth rate is zero. Price 10 = Div 11 /r = 1.50/.15 = $10; Using the NPV function and the annual cash flows calculate the price; NPV(15,0,{0.00,0.00,0.00,0.75,0.84,0.94,1.0 5,1.18,1.32,1.50+10.00} $5.25 Price = $5.25

9
© 2013 Pearson Education, Inc. All rights reserved.7-9 Additional Problems with Answers Problem 4 Pricing non-constant growth common stock: The WedLink Corporation just paid a dividend of $1.25 to its common shareholders. It announced that it expects the dividends to grow by 25% per year for the next 3 years. Then drop to a growth rate of 16% for an additional 2 years. Finally the dividends will converge to the industry median growth rate of 8% per year. If investors are expecting 12% per year on WedLink’s stock, calculate the current stock price.

10
© 2013 Pearson Education, Inc. All rights reserved.7-10 Additional Problems with Answers Problem 4 (Answer) Determine the dividend per share in Years 1-5 using the stated annual growth rates: D1=$1.25*(1.25)=$1.56; D2=$1.56*(1.25)=$1.95; D3=1.95*(1.25)=$2.44; D4=$2.44*(1.16)=$2.83; D5=$2.83*(1.16)=3.28 Next, Calculate the price at the end of Year 5; using the Gordon Model.

11
© 2013 Pearson Education, Inc. All rights reserved.7-11 Additional Problems with Answers Problem 4 (Answer) (continued) Using r = 12% and g = 8% (constant growth phase) i.e. P 5 = D 5 (1+g)/(r – g) P 5 = $3.28*(1.08)/(.12-.08) 3.54/.04=$88.56 Finally calculate the present value of all the dividends in Years 1-5 and the price in Year 5, by using the NPV function….(TI-83 keystrokes shown here) NPV(12,0,{1.56, 1.95, 2.44, 2.83, 3.28+88.56} = $58.60

12
© 2013 Pearson Education, Inc. All rights reserved.7-12 Additional Problems with Answers Problem 5 (A) Pricing common stock with constant growth and finite life versus infinite life. The ANZAC Corporation plans to be in business for 30 years. They announce that they will pay a dividend of $3.00 per share at the end of one year, and continue increasing the annual dividend by 4% per year until they liquidate the company at the end of 30 years. If you want to earn a rate of return of 12% by investing in their stock, how much should you pay for the stock?

13
© 2013 Pearson Education, Inc. All rights reserved.7-13 Additional Problems with Answers Problem 5 (A) (Answer) Div 1 = $3.00; r = 12%; g = 4%; n = 30 Using the formula for a growing annuity we can solve for the current price. Price 0 = $37.5*0.89174 = $33.44

14
© 2013 Pearson Education, Inc. All rights reserved.7-14 Additional Problems with Answers Problem 5 (B) If the company was to announce that it would continue increasing the dividend at 4% per year forever, how much more would you be willing to pay for its stock, assuming your required rate of return is still 12%?

15
© 2013 Pearson Education, Inc. All rights reserved.7-15 Additional Problems with Answers Problem 5 (B) (Answer) If the growth rate is 4% forever, the price of the stock can be figured out by using the Gordon Model; D 1 =$3.00; r=12% $3.00/(.12 -.04) $37.50

Similar presentations

Presentation is loading. Please wait....

OK

Besley: Chapter 7 Assignment 5

Besley: Chapter 7 Assignment 5

© 2017 SlidePlayer.com Inc.

All rights reserved.

Ads by Google

Ppt on history of atom worksheet Ppt on mobile computing technology Ppt on art and craft movement furniture Powerpoint ppt on nanotechnology Ppt on success and failure of jamestown Ppt on formal education crossword Ppt on ceramic ball bearings Ppt on atmospheric pressure for class 8 Ppt on collection of data Ppt on impact of social networking sites