Question

Management action and stock value REH Corporation's most recent dividend was $2.88 per share, its expected annual rate of dividend growth is 5%, and the required return is now 15%. A variety of proposals are being considered by management to redirect the firm's activities. Determine the impact on share price for each of the following proposed actions. a. Do nothing, which will leave the key financial variables unchanged. b. Invest in a new machine that will increase the dividend growth rate to 8% and lower the required return to 11%. c. Eliminate an unprofitable product line, which will increase the dividend growth rate to 6% and raise the required return to 19%. d. Merge with another firm, which will reduce the growth rate to 2% and raise the required return to 16%. e. Acquire a subsidiary operation from another manufacturer. The acquisition should increase the dividend growth rate to 9% and increase the required return to 19%. a. If the firm does nothing that will leave the key financial variables unchanged, the value of the firm will be $ 30.24. (Round to the nearest cent.) b. If the firm invests in a new machine that will increase the dividend growth rate to 8% and lower the required return to 11%, the value of the firm will be $ . (Round to the nearest cent

Answer 1

Firm value is calculate by the below formula:

Value = Do X (1+9) T-9 g = growth rate T= required rate

Now using this we can calculate the value for each of the above options:

a)

Do X (1+9) Value =- r-9 2.88 x (1 + 0.05) Value = 0.10 – 0.05 Value = 30.24

b)

Do X (1+9) Value =- r-9 2.88 x (1 + 0.08) Value = 0.11 – 0.08 Value = 103.68

c)

Do X (1+9) Value =- r-9 2.88 x (1 + 0.06) Value = 0.19 - 0.06 Value = 23.48

d)

Do X (1+9) Value =- T-9 2.88 x (1 + 0.02) Value = 0.16 – 0.02 Value = 20,98

e)

Value - Do X (1+9) T-9 2.88 x (1 + 0.09) 0.19 - 0.09 Value = Value = 31.392