Chapter 10 Stock Valuation Problems

10-1
(Measuring growth) If Pepperdine, Inc.’s return on equity is 16 percent

and the management plans to retain 60 percent of earning for
investment purposes, what will be the firm’s growth rate?
10-2
(Measuring growth) If the Stanford Corporation’s net income is $200

million, its common equity is $833 million, and management plans to
retain 70% of the firm’s earning to finance new investments, what will be
the growth rate?
10-3
Related to checkpoint 10.1 on page 310) ( Common stock valuation)

Header Motor, Inc, paid a $3.50 dividend last year. At a constant growth
rate of 5 percent, what is the value of the common stock if the investors
require a 20 percent rate of return?
10-4
(Common stock valuation) Gilliland Motor ,Inc, paid a $3.75 dividend last
year. If Gilliland’s return on equity is 24%, and its retention rate is 25%,
what is the value of the common stock if the investors require a 20%
rate of return?
10-5
(Common stock valuation) The common stock of NCP paid $1.32 in

dividend last year. Dividends are expected to grow at an 8 percent
annual rate for an indefinite number of year.
A) If your required rate of return is 10.5% what is the value of the

stock for you?
B)Should you make the investment?
10-6
(Measuring growth) Given that a firm’s return on equity is 18% and

management plans to retain 40% of earnings for investment purposes,
what will be the firm’s growth rate? If the firm decides to increase its
retention rate, what will happen to the value of its common stock?
10-7
(Common stock valuation) Wayne, Inc, outstanding common stock is

currently selling in the market for $33. Dividends of $2.30 per share were
paid last year, return on equity is 20%, and its retention rate is 25%.
A) What is the value of the stock to you, given a 15% required rate of
return?
B)Should you purchase this stock?
10-8
(Measuring growth) Thomas, Inc, return on equity is 13% and

management has plans to retain 20% of earnings for investment in the
company.
A) What will be the company’s growth rate?
B)How would the growth rate change if management (i) increased

retained earnings to 35% or (ii) decreased retention to 13%?
10-9
(Measuring growth) Solarpower System expects to earn $20 per share

this year and intends to pay out $8 in dividends to shareholders and
retain $12 to invest in new projects with an expected return on equity of
$20. In the future solarpower expected to retain the same dividend
payout ratio, expects to earn 20% return on its equity invested in new
projects, and will not be changing the number of shares of common
stock outstanding.
A) Calculate the future growth rate for solarpower’s earnings.
B) If the investors’ required rate of return for solarpower’ stock is

15 percent, what would be the price of solarpower’s common
stock?
What would happen to the price of solarpower’s common stock
if it raised its dividends to $12 this year and then continued with
the same dividend payout ratio permanently? Should
solarpower make this change? (Assume that the investor’s
required rate of return remains at 15 percent.)
C) What would happen to the price of solarpower’s common stock
if it lowered its dividends to $4 this year and then continued with
that same dividend payout ratio permanently? Should
solarpower make this change? (Assume that the investor’s
required rate of return remains at 15% and that all future new
projects will earn 20%.)
10-10
(Measuring growth) Green Gadgets Inc, is trying to decide whether to

cut its expected dividends from $8 per share to $5 in order have more
money to invest in new projects. If it does not cut the dividend, Green
Gadgets expected rate of growth in dividends is %5 per year and the
price of their common stock will be $100 per share. However, if they cut
their dividend, the dividend growth rate is expected to rise to 8% in the
future.
Assume that the investor’s required rate of return for Green Gadgets’s
stock does not change, what would you expected to happen to the price
of their common stock if they cut the dividend to $5? Should they cut
their dividend? Support your answer as best as you can.
10-11
(common stock valuation ) dubai metros stock price was at $100 per
share when it announced that it will cut its dividends from $10 per share
to $6 per share , with additional funds used for expansion . prior to the
dividend cut , dubai metro expected its dividends to grow at a 4%rate ,
but with the expansion , dividends are now expected to grow at 7%. How
do you think dubai metros stock price will react to the announcement ?
10-12
( relative valuation of common stock ), using the P/E ratio approach to
evaluation calculate the value of a share of stock under the following
Conditions:
 The investors required rate of return is 12%

 The expected level of earnings at the end of this year ( E1 ) is
$4.00
 The firm follows a policy of retaining 30% of its earnings
 The return on equity ( ROE )is 15% and
 Similar shares of stock sell at multiples of 13.3325 times earnings
per share.
Now show that you get the same answer using the discounted
dividend model.
10-13
(common stock valuation ) assume the following :

 The investors required rate of return of 13.5%
 The expected level of earning at the end of this year is $6.00
 The retention ratio is 50%
 The return on equity (ROE) is 15% that is , it can earn 15% on
reinvested earnings) and
 Similar shares of stock sell at multiples of 16.667 times earnings per
share .
 Question
Determine the expected growth rate for dividends
Determine the price earnings ratio
What is the stock price using the P/E ratio valuation method ?
What is the stock price using the dividend discount model ?
What would happen to the P/E ratio and stock price if the company
increased its retention rate to 60% (holding all else constant ) ? what would
happen to the P/E ratio and stock price if the company paid out all its
earnings in the form of dividends ?
What have you learned about the relationship between the retention rate
ans P/E ratios ?
10-14
 .(common stock valuation )assume the following :

 The investor required rate of return of 15%
 The expected level of earnings at the end of this year of $5.00
 The retention ratio is 50%
 The return on equity (ROE) is 20%( that is it can earn 20% on
reinvested earnings ) and
 Similar shares of stock sell at multiples of 10 times earnings per
share .
 Question:
1. Determine the expected growth rate for dividends
2. Determine the price earnings ratio
3. What is the stock price using the P/E ratio valuation method ?
4. What is the stock price using the dividend discount model ?
5. What would happen to the P/E ratio and stock price if the firm
could earn 25% on reinvested earnings (ROE) ?
6. What dose this tell you about the relationship between the rate the
firm can earn on reinvested earnings and P/E ratios?
10-15
( preferred stock valuation ) calculate the value of a preferred stock that
pays a dividend of $6 per share when the markets required yield on
similar shares is 12 percent .
10-16
.( preferred stock valuation ) pioneers preferred stock is selling for $33 in
the market and pays a $3.60 annual dividend .
1. If the market s required yield is 10%, what is the value of the stock
for that investor ?
2-Should the investor acquire the stock ?
10-17
( preferred stock valuation ) what is the value of a preferred stock where

the dividend rate is 14 percent on a $100 par value . and the markets
required yield on similar shares is 12%?
10-18
( preferred stock valuation ) you own 200 shares of somner resources

preferred stock , which currently sells for $40 per share and pays
annual dividend of $3.40 per share. If the markets required yield on
similar shares is 10%, should you sell your shares or buy more ?
10-19
( preferred stock valuation ) Kendra corporations preferred shares are

trading for $25 in the market and pay a $4.50 annual dividend . assume
that the markets required yield is 14%.
1. What is the stocks value to you , the investor ?
2- Should you purchase the stock ?

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10-1

(Measuring growth) If Pepperdine, Inc.’s return on equity is 16 percent

(Measuring growth) If the Stanford Corporation’s net income is $200

Related to checkpoint 10.1 on page 310) ( Common stock valuation)

(Common stock valuation) The common stock of NCP paid $1.32 in

A) If your required rate of return is 10.5% what is the value of the

B)Should you make the investment?

(Measuring growth) Given that a firm’s return on equity is 18% and

(Common stock valuation) Wayne, Inc, outstanding common stock is

B)Should you purchase this stock?

(Measuring growth) Thomas, Inc, return on equity is 13% and

A) What will be the company’s growth rate?

B)How would the growth rate change if management (i) increased

(Measuring growth) Solarpower System expects to earn $20 per share

A) Calculate the future growth rate for solarpower’s earnings.

B) If the investors’ required rate of return for solarpower’ stock is

(Measuring growth) Green Gadgets Inc, is trying to decide whether to

 The investors required rate of return is 12%

(common stock valuation ) assume the following :

 .(common stock valuation )assume the following :

.( preferred stock valuation ) pioneers preferred stock is selling for $33 in

the market and pays a $3.60 annual dividend .

2-Should the investor acquire the stock ?

( preferred stock valuation ) what is the value of a preferred stock where

( preferred stock valuation ) you own 200 shares of somner resources

( preferred stock valuation ) Kendra corporations preferred shares are

2- Should you purchase the stock ?

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