Question

Questions 4-6

4. Firm Y currently pays a dividend of $1.22, which is expected to grow indefinitely at 5%. If the current value of the firm's shares based on constant-growth DDM is $32.03, what is the required rate of return? 5. MM Corp, has an ROE of 16% and a plowback ratio of 50%. If the coming year's earnings are expected to be s per share, at what price will the stock sell? The market capitalization rate is 12%. 6. The stock of NN Corporation is currently selling for $10 per share. EPS in the coming year are expected to be $2. The company has a policy of paying out 50% of its earnings each year in dividends. The rest is retained and invested in projects that earn a 20% rate of return per year. This situation is expected to continue indefinitely, a) Assuming the current market price of the stock reflects its intrinsic value as computed using constant-growth DDM, what rate of return do NN Corp's investors require? b) By how much does its value exceed what it would be if all earnings were paid as dividends and nothing was reinvested? c) If NN was to cut its dividend payout ratio to 25%, what would happen to its stock price? d) What if NN eliminated dividends, what would happen to its stock price? ---- llah hasil

Answer 1

Only the first question (Q 4) is answered as HOMEWORKLIB guidelines.

Q4:

Value of the share as per DDM = D1/(r-g)

Where D1= Dividend for the next year (year 1), r= Rate of return and g= Growth rate of dividend.

Given, Current dividend =$1.22 and growth rate=5%

Therefore next dividend (D1)= $1.22*(1+5%) = $1.22*1.05= $ 1.281

Current Value as per DDM = $32.03

Substituting the values, $32.03= $1.281/(r-0.05)

(r-0.05)= $1.281/$32.03= 0.039746

Therefore, rate of return (r) = 0.039746+0.05 = 0.089746 Or, 8.9746%