Case Study: Peachtree Securities

8) What would BV's 1988 earnings per share be after all of the above adjustments?

What information to you need to find the 3 year forward rate starting 2 years from now?

a. What is the CD’s value at maturity (future value) if it pays 10 percent annual interest?

Suppose Ace, over the last few years, has had an 18 percent average return on equity (ROE) and has paid out 20 percent of its net income as dividends. Under what conditions could this information be used to help estimate the firm’s expected future growth rate, g? Estimate ks using this procedure for determining g.

c) The present value of $500 to be received in one year when the opportunity cost rate is 8 percent (discounting):

b. What would Mrs. Beach have to deposit if she were to use common stock and earned an average rate of return of 11%.

Star Appliance is looking to expand their product line and is considering three different projects: dishwashers, garbage disposals, and trash compactors. We want to determine which project would be worth doing by determining if they will add value to Star. Thus, the project(s) that will add the most value to Star Appliance will be worth pursuing. The current hurdle rate of 10% should be re-evaluated by finding the weighted average cost of capital (WACC). Then by forecasting the cash flows of each project and discounting them by the WACC to find the net present value, or by solving for the internal rate of return, we should be able to see which projects Star should undertake.

Dividends were assumed to grow at the geometric average of the last 6 years, 20.28%. P0 = D2 Dn Pn D1 + + ··· + + 1 2 n (1 + Ke ) (1 + Ke ) (1 + Ke ) (1 + Ke )n $1.58 $2.28 $87.31 $1.31 + + ··· + + = 1 2 4 (1 + 7.0%) (1 + 7.0%) (1 + 7.0%) (1 + 7.0%)4 = $72.53

23) Danroy Inc has announced a $5 dividend. If Danroy's last price while trading cum-dividend is $65, what should its first ex-dividend price be (assuming perfect capital markets)?

For g, we are given that the dividend has grown from $0.82 to $1.20 in four years. We use the compound interest formula to get the growth rate

a. What risk-free rate and risk premium did you use to calculate the cost of equity?

What are the expected dividend yield and capital gains yield during the fourth year (from Year 3 to Year 4)?

Solutions to Valuation Questions 1. Assume you expect a company’s net income to remain stable at $1,100 for all future years, and you expect all earnings to be distributed to stockholders at the end of each year, so that common equity also remains stable for all future years (assumes clean surplus). Also, assume the company’s β = 1.5, the market risk premium is 4% and the 20-30 year yield on risk free treasury bonds is 5%. Finally, assume the company has 1,000 shares of common stock outstanding. a. Use the CAPM to estimate the company’s equity cost of capital. • re = RF + β * (RM – RF) = 0.05 + 1.5 * 0.04 = 11% b. Compute the expected net distributions to stockholders for each future year. • D = NI – ΔCE = $1,100 – 0 = $1,100 c. Use the

Stock X is expected to pay a dividend of $3.00 at the end of the year (that is, D1 = $3.00). The dividend is expected to grow at a constant rate of 6 percent a year. The stock currently trades at a price of $50 a share. Assume that the stock is in equilibrium, that is, the stock’s price equals its intrinsic value. Which of the following statements is most correct?

Present value of an annuity: Transit Insurance Company has made an investment in another company that will guarantee it a cash flow of $37,250 each year for the next five years. If the company uses a discount rate of 15 percent on its investments, what is the present value of this investment? (Round to the nearest dollar.)