5 Company Q’s current return on equity (ROE) is 14%. It pays out 50 percent of earnings as cash dividends (payout ratio
Posted: Tue Apr 26, 2022 10:37 am
5 Company Q’s current return on equity (ROE) is 14%. It pays out
50 percent of earnings as cash dividends (payout ratio = 0.50).
Current book value per share is $60. Book value per share will grow
as Q reinvests earnings. Assume that the ROE and payout ratio stay
constant for the next four years. After that, competition forces
ROE down to 11.5% and the payout ratio increases to 0.90. The cost
of capital is 11.5%.
a. What are Q’s EPS and dividends in years 1, 2, 3, 4, and 5?
(Do not round intermediate calculations. Round your answers to 2
decimal places.)
b. What is Q’s stock worth per share? (Do not round intermediate
calculations. Round your answer to 2 decimal places.)
6 Compost Science Inc. (CSI) is in the business of converting
Boston’s sewage sludge into fertilizer. The business is not in
itself very profitable. However, to induce CSI to remain in
business, the Metropolitan District Commission (MDC) has agreed to
pay whatever amount is necessary to yield CSI a 13% book return on
equity. At the end of the year, CSI is expected to pay a $4
dividend. It has been reinvesting 30% of earnings and growing at 5%
a year.
8 Portfolio managers are frequently paid a proportion of the
funds under management. Suppose you manage a $106 million equity
portfolio offering a dividend
yield (DIV1/ P0) of
5.6%. Dividends and portfolio value are expected to grow at a
constant rate. Your annual fee for managing this portfolio is 0.56%
of portfolio value and is calculated at the end of each year.
a. Assuming that you will continue to manage
the portfolio from now to eternity, what is the present value of
the management contract? (Enter your answer in
millions rounded to 1 decimal places.)
b. What would the contract value be if you
invested in stocks with a 4.6% yield? (Enter your
answer in millions rounded to 2 decimal places.)
a-1. Suppose CSI continues on this growth
trend. What is the expected long-run rate of return from purchasing
the stock at $100? (Do not round
intermediate calculations. Enter your answer as a percent rounded
to the nearest whole number.)
a-2. What part of the $100 price is
attributable to the present value of growth
opportunities? (Do not round
intermediate calculations. Round your answer to 2 decimal
places.)
b. Now the MDC announces a plan for CSI to
treat Cambridge sewage. CSI’s plant will, therefore, be expanded
gradually over five years. This means that CSI will have to
reinvest 60% of its earnings for five years. Starting in year 6,
however, it will again be able to pay out 70% of earnings. What
will be CSI’s stock price once this announcement is made and its
consequences for CSI are known? (Do
not round intermediate calculations. Round your answer to 2 decimal
places.)
50 percent of earnings as cash dividends (payout ratio = 0.50).
Current book value per share is $60. Book value per share will grow
as Q reinvests earnings. Assume that the ROE and payout ratio stay
constant for the next four years. After that, competition forces
ROE down to 11.5% and the payout ratio increases to 0.90. The cost
of capital is 11.5%.
a. What are Q’s EPS and dividends in years 1, 2, 3, 4, and 5?
(Do not round intermediate calculations. Round your answers to 2
decimal places.)
b. What is Q’s stock worth per share? (Do not round intermediate
calculations. Round your answer to 2 decimal places.)
6 Compost Science Inc. (CSI) is in the business of converting
Boston’s sewage sludge into fertilizer. The business is not in
itself very profitable. However, to induce CSI to remain in
business, the Metropolitan District Commission (MDC) has agreed to
pay whatever amount is necessary to yield CSI a 13% book return on
equity. At the end of the year, CSI is expected to pay a $4
dividend. It has been reinvesting 30% of earnings and growing at 5%
a year.
8 Portfolio managers are frequently paid a proportion of the
funds under management. Suppose you manage a $106 million equity
portfolio offering a dividend
yield (DIV1/ P0) of
5.6%. Dividends and portfolio value are expected to grow at a
constant rate. Your annual fee for managing this portfolio is 0.56%
of portfolio value and is calculated at the end of each year.
a. Assuming that you will continue to manage
the portfolio from now to eternity, what is the present value of
the management contract? (Enter your answer in
millions rounded to 1 decimal places.)
b. What would the contract value be if you
invested in stocks with a 4.6% yield? (Enter your
answer in millions rounded to 2 decimal places.)
a-1. Suppose CSI continues on this growth
trend. What is the expected long-run rate of return from purchasing
the stock at $100? (Do not round
intermediate calculations. Enter your answer as a percent rounded
to the nearest whole number.)
a-2. What part of the $100 price is
attributable to the present value of growth
opportunities? (Do not round
intermediate calculations. Round your answer to 2 decimal
places.)
b. Now the MDC announces a plan for CSI to
treat Cambridge sewage. CSI’s plant will, therefore, be expanded
gradually over five years. This means that CSI will have to
reinvest 60% of its earnings for five years. Starting in year 6,
however, it will again be able to pay out 70% of earnings. What
will be CSI’s stock price once this announcement is made and its
consequences for CSI are known? (Do
not round intermediate calculations. Round your answer to 2 decimal
places.)