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Exam 13: Equity Valuation

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Question 21

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Next year's earnings are estimated to be $5. The company plans to reinvest 20% of its earnings at 15%. If the cost of equity is 9%, what is the present value of growth opportunities?

A) $9.09
B) $10.10
C) $11.11
D) $12.21

E) A) and B)
F) A) and C)

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Question 22

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Firm A is high-risk, and Firm B is low-risk. Everything else equal, which firm would you expect to have a higher P/E ratio?

A) Firm A
B) Firm B
C) Both would have the same P/E if they were in the same industry.
D) There is not necessarily any linkage between risk and P/E ratios.

E) A) and B)
F) B) and D)

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Question 23

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A firm has PVGO of 0 and a market capitalization rate of 12%. What is the firm's P/E ratio?

Grott and Perrin, Inc., has expected earnings of $3 per share for next year. The firm's ROE is 20%, and its earnings retention ratio is 70%. If the firm's market capitalization rate is 15%, what is the present value of its growth opportunities?

Transportation stocks currently provide an expected rate of return of 15%. TTT, a large transportation company, will pay a year-end dividend of $3 per share. If the stock is selling at $60 per share, what must be the market's expectation of the constant-growth rate of TTT dividends?

A firm has an earnings retention ratio of 40%. The stock has a market capitalization rate of 15% and an ROE of 18%. What is the stock's P/E ratio?

A company with an expected earnings growth rate which is greater than that of the typical company in the same industry most likely has ________.

Gagliardi Way Corporation has an expected ROE of 15%. If it pays out 30% of its earnings as dividends, its dividend growth rate will be ________.

You want to earn a return of 10% on each of two stocks, A and B. Each of the stocks is expected to pay a dividend of $4 in the upcoming year. The expected growth rate of dividends is 6% for stock A and 5% for stock B. Using the constant-growth DDM, the intrinsic value of stock A ________.

In what industry are investors likely to use the dividend discount model and arrive at a price close to the observed market price?

The market capitalization rate on the stock of Aberdeen Wholesale Company is 10%. Its expected ROE is 12%, and its expected EPS is $5. If the firm's plowback ratio is 60%, its P/E ratio will be ________.

The market capitalization rate on the stock of Aberdeen Wholesale Company is 10%. Its expected ROE is 12%, and its expected EPS is $5. If the firm's plowback ratio is 50%, its P/E ratio will be ________.

The free cash flow to the firm is reported as $405 million. The interest expense to the firm is $76 million. If the tax rate is 35% and the net debt of the firm increased by $50 million, what is the free cash flow to the equity holders of the firm?

ART has come out with a new and improved product. As a result, the firm projects an ROE of 25%, and it will maintain a plowback ratio of 0.20. Its earnings this year will be $3 per share. Investors expect a 12% rate of return on the stock. What is the present value of growth opportunities for ART?

A firm has current assets that could be sold for their book value of $10 million. The book value of its fixed assets is $60 million, but they could be sold for $95 million today. The firm has total debt at a book value of $40 million, but interest rate changes have increased the value of the debt to a current market value of $50 million. This firm's market-to-book ratio is ________.

A preferred share of Coquihalla Corporation will pay a dividend of $8 in the upcoming year and every year thereafter; that is, dividends are not expected to grow. You require a return of 7% on this stock. Using the constant-growth DDM to calculate the intrinsic value, a preferred share of Coquihalla Corporation is worth ________.

New-economy companies generally have higher ________ than old-economy companies.

Assuming all other factors remain unchanged, ________ would increase a firm's price-earnings ratio.

Brevik Builders has an expected ROE of 25%. Its dividend growth rate will be ________ if it follows a policy of paying 30% of earnings in the form of dividends.

ART has come out with a new and improved product. As a result, the firm projects an ROE of 25%, and it will maintain a plowback ratio of 0.20. Its earnings this year will be $3 per share. Investors expect a 12% rate of return on the stock. At what P/E ratio would you expect ART to sell?