Question

Halliford Corporation expects to have earnings this coming year of

$ 3.183

per share. Halliford plans to retain all of its earnings for the next two years.​ Then, for the subsequent two​ years, the firm will retain

49 %

of its earnings. It will retain

20 %

of its earnings from that point onward. Each​ year, retained earnings will be invested in new projects with an expected return of

25.5 %

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

8.5 %

what price would you estimate for Halliford​ stock? ​(Note: Be careful not to round any intermediate steps less than three decimal​ places.)

The stock price will be

Answer 1

Price of stock = present value of dividends for next 4 years + present value of terminal value at end of 4 years

Dividend per share = earnings per share - retained earnings per share

Growth rate of dividends = retention ratio *  expected return of new projects

terminal value at end of 4 years = dividend after 5 years / (cost of capital - growth rate after 4 years)

present value = future value / (1 + cost of capital)^{number of years}

The stock price will be $117.80

A B C D E | F G H PV of Terminal PV of terminal Value dividend value Retention Dividend Growth Ratio per share rate 1 Year EPS 0 $3.183 1 $3.995 2 $5.013 3 $5.640 4 $6.344 5 $6.668 100% 100% 49% 49% 20% $0.000 $0.000 $2.876 $3.236 $5.334 25.50% 25.50% 12.50% 12.50% $156.893 5.10% Price of Share $0.000 $0.000 $2.252 $2.335 $113.210 $117.80

A B 1 Year EPS Retention Ratio Dividend per share Growth rate Terminal Value PV of dividend PV of terminal value 20 3.183 3 1 =B2*(1+E3) 1 =B3*(1-C3) =C3*25.5% =D3/(1+8.5%)^A3 42 =B3*(1+E4) 1 =B4*(1-C4) =C4*25.5% =D4/(1+8.5%)^A4 =B4*(1+E5) 0.49 =B5*(1-C5) =C5*25.5% =D5/(1+8.5%) A5 6 4 =B5*(1+E6) 0.49 =B6*(1-C6) =C6*25.5% =D7/(8.5%-E7) =D6/(1+8.5%)^A6 =F6/(1+8.5%) A6 =B6*(1+E7) 0.2 =B7*(1-07) =C7*25.5% | Price of Share -SUM(G3:67)+H6 3