Question

Halliford Corporation expects to have earnings this coming year of $ 2.82 per share. Halliford plans to retain all of its earnings for the next two years. For the subsequent two​ years, the firm will retain 51 % of its earnings. It will then retain 23 % of its earnings from that point onward. Each​ year, retained earnings will be invested in new projects with an expected return of 19.55 % per year. Any earnings that are not retained will be paid out as dividends. Assume​ Halliford's share count remains constant and all earnings growth comes from the investment of retained earnings. If​ Halliford's equity cost of capital is 9.6 %​, what price would you estimate for Halliford​ stock? ​Note: Remenber that growth rate is computed​ as: retention rate times rate of return.

Thank you!

Answer 1

ROE=	19.55%	Required rate=	9.60%	Long term ret. Rate=	23.00%
Year	EPS previous year	Retention ratio	Growth rate	EPS current year	Dividend current year	Terminal value	Total Value	Discount factor	Discounted value
1	0	100.00%	19.550%	2.82	0		0	1.096	0
2	2.82	100.00%	19.550%	3.37131	0		0	1.201216	0
3	3.37131	51.00%	9.971%	3.707446464	1.816648767		1.816648767	1.316533	1.379874
4	3.707446464	51.00%	9.971%	4.077097413	1.997777732	40.90541409	42.90319182	1.44292	29.73359
	Long term growth rate =	=ROE*long term ret. Rate=	4.497%				Value of stock =	Sum of discounted values=	31.11
Where
Growth rate = ROE*retention rate for corresponding year
EPS curr. Year = EPS previous year*(1+growth rate) if not given
Dividend current year = EPS current year*(1-retention ratio)
Terminal value = Dividend Current year 4 *(1+long term growth rate)/( Required rate-long term growth rate)
Total value = Dividend + horizon value (only for last year)
Discount factor=(1+ Required rate)^corresponding period
Discounted value=total value/discount factor