978-0132757089 Chapter 10 Part 1

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Financial Management: Principles and Applications, 11e (Titman)

Chapter 10 Stock Valuation

1) The XYZ Company, whose common stock is currently selling for $40 per share, is expected to

pay a $2.00 dividend in the coming year. If investors believe that the expected rate of return on

XYZ is 14%, what growth rate in dividends must be expected?

A) 5%

B) 14%

C) 9%

D) 6%

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

2) The expected rate of return on a share of common stock whose dividends are growing at a

constant rate (g) is which of the following?

A) (D1 + g)/Vc

B) D1/Vc + g

C) D1/g

D) D1/Vc

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

3) Green Company’s common stock is currently selling at $24.00 per share. The company

recently paid dividends of $1.92 per share and projects growth at a rate of 4%. At this rate, what

is the stock’s expected rate of return?

A) 4.08%

B) 8.00%

C) 12.00%

D) 8.80%

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

4) Common stockholders are essentially:

A) creditors of the firm.

B) managers of the firm.

C) owners of the firm.

D) all of the above.

Topic: 10.1 Common Stock

Keywords: voting rights

Principles: Principle 2: There Is a Risk-Return Tradeoff

5) Butler, Inc.’s return on equity is 17% and management retains 75% of earnings for investment

purposes. Based on this information, what will be the firm’s growth rate?

A) 4.25%

B) 22.67%

C) 44.12%

D) 12.75%

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

6) If a company has a return on equity of 25% and wants a growth rate of 10%, how much of

ROE should be retained?

A) 40%

B) 50%

C) 60%

D) 70%

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

7) ________ gives minority shareholders more power to elect board of directors.

A) Preemptive right

B) Majority voting

C) Proxy fights

D) Cumulative voting

Topic: 10.1 Common Stock

Keywords: voting rights

Principles: Principle 4: Market Prices Reflect Information

8) You are evaluating the purchase of Cellars, Inc. common stock that just paid a dividend of

$1.80. You expect the dividend to grow at a rate of 12% for the next three years. You plan to hold

the stock for three years and then sell it. You estimate that a required rate of return of 17.5% will

be adequate compensation for this investment. Calculate the present value of the expected

dividends. Round to the nearest $0.10.

A) $4.90

B) $11.50

C) $9.80

D) $6.10

Topic: 10.1 Common Stock

Keywords: agency

Principles: Principle 3: Cash Flows Are the Source of Value

9) You are evaluating the purchase of Holdings, Inc. common stock that just paid a dividend of

$1.80, and the dividend will be $1.80 per share per year for the next ten years. You plan to hold

the stock for three years and then sell it. You expect the price of the company’s stock to rise to

17.5% will be adequate compensation for this investment. Calculate the present value of the

expected future stock price. Round to the nearest $.25.

A) $64.00

B) $55.25

C) $31.75

D) $103.00

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

10) CEO naming friends to the board of directors and paying them more than the norm is an

example of the:

A) agency problem.

B) preemptive right.

C) majority voting feature.

D) proxy fights.

Topic: 10.1 Common Stock

Keywords: agency

Principles: Principle 4: Market Prices Reflect Information

11) Little Feet Shoe Co. just paid a dividend of $1.65 on its common stock. This company’s

dividends are expected to grow at a constant rate of 3% indefinitely. If the required rate of return

on this stock is 11%, compute the current value of per share of LFS stock.

A) $20.63

B) $21.24

C) $15.00

D) $55.00

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

12) Marshall Manufacturing has common stock which paid a dividend of $1.00 a share last year.

12%, how much are you willing to pay for the stock today?

A) $13.00

B) $15.00

C) $17.00

D) $19.00

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

13) Marble Corporation’s ROE is 17%. Their dividend payout ratio is 20%. The last dividend,

just paid, was $2.58. If dividends are expected to grow by the company’s sustainable growth rate

indefinitely, what is the current value of Marble common stock if its required return is 18%?

A) $14.33

B) $18.27

C) $47.67

D) $66.61

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

14) Fris B. Corporation stock is currently selling for $42.86. It is expected to pay a dividend of

$3.00 at the end of the year. Dividends are expected to grow at a constant rate of 3% indefinitely.

Compute the required rate of return on FBC stock.

A) 10%

B) 33%

C) 7%

D) 4.3%

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

15) You are evaluating the purchase of Cool Toys, Inc. common stock that just paid a dividend of

$1.80. You expect the dividend to grow at a rate of 12%, indefinitely. You estimate that a

required rate of return of 17.5% will be adequate compensation for this investment. Assuming

that your analysis is correct, what is the most that you would be willing to pay for the common

stock if you were to purchase it today? Round to the nearest $.01.

A) $36.65

B) $91.23

C) $51.55

D) $74.82

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

16) A stock currently sells for $63 per share, and the required return on the stock is 10%.

Assuming a growth rate of 5%, calculate the stock’s last dividend paid.

A) $1

B) $3

C) $5

D) $7

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

17) A decrease in the ________ will cause an increase in common stock value.

A) growth rate

B) required rate of return

C) last paid dividend

D) both B and C

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 1: Money Has a Time Value

18) Acme Consolidated has a return on equity of 12%. If Acme distributes 60% of earnings as

dividends, then we would expect the common shareholders’ investment in the firm and the value

of the common stock to grow by:

A) 4.80%.

B) 7.20%.

C) 12%.

D) 6%.

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

19) An investor is contemplating the purchase of common stock at the beginning of this year and

to hold the stock for one year. The investor expects the year-end dividend to be $2.00 and

expects a year-end price for the stock of $40. If this investor’s required rate of return is 10%, then

the value of the stock to this investor is:

A) $36.36.

B) $38.18.

C) $33.06.

D) $34.88.

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

20) A firm just paid $2.00 on its common stock and expects to continue paying dividends, which

are expected to grow 5% each year, from now to infinity. If the required rate of return for this

stock is 9%, then the value of the stock is:

A) $50.00.

B) $40.00.

C) $54.50.

D) $52.50.

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

21) An issue of common stock currently sells for $40.00 per share, has an expected dividend to

5% per year. The expected rate of return on this security is:

A) 5%.

B) 10.25%.

C) 13.11%.

D) 10%.

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

22) White Sink, Inc. just paid a dividend of $5.55 per share on its common stock, and the firm is

expected to generate constant growth of 12.25% over the foreseeable future. The common stock

is currently selling for $73.75 per share. The firm’s dividend payout ratio is 40%, and White’s

marginal tax rate is 40%. What is the rate of return that common stockholders expect? Round to

the nearest 0.1%.

A) 8.5%

B) 20.7%

C) 15.5%

D) 4.8%

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 1: Money Has a Time Value

23) KDP’s most recent dividend was $2.00 per share and is selling today in the market for $70.

The dividend is expected to grow at a rate of 7% per year for the foreseeable future. If the market

return is 10% on investments with comparable risk, should you purchase the stock?

A) No, because the stock is overpriced $1.33.

B) No, because the stock is overpriced $3.33.

C) Yes, because the stock is underpriced $1.33.

D) Yes, because the stock is underpriced $3.33.

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

24) An issue of common stock currently sells for $50.00 per share, has an expected dividend to

5% per year. If investors’ required rate of return for this particular security is 12% per year, then

this security is:

A) overvalued and offering an expected return higher than the required return.

B) undervalued and offering an expected return higher than the required return.

C) overvalued and offering an expected return lower than the required return.

D) undervalued and offering an expected return lower than the required return.

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

25) You are considering the purchase of Miller Manufacturing, Inc.’s common stock. The stock is

selling for $21.00 per share. The next dividend is expected to be $2.10, and you expect the

dividend to keep growing at a constant rate. If the stock is returning 15%, calculate the growth

rate of dividends.

A) 3%

B) 5%

C) 8%

D) 10%

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

26) ABC, Inc. just paid a dividend of $2. ABC expects dividends to grow at 10%. The return on

stocks like ABC, Inc. is typically around 12%. What is the most you would pay for a share of

ABC stock?

A) $100

B) $110

C) $120

D) $130

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

27) Marjen, Inc. just paid a dividend of $5. Marjen stock currently sells for $73.57. The return on

stocks like Marjen, Inc. is around 10%. What is the implied growth rate of dividends.

A) 1%

B) 3%

C) 5%

D) 7%

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 3: Cash Flows Are the Source of Value

28) Which investor incurs the greatest risk?

A) Mortgage bondholder

B) Preferred stockholder

C) Common stockholder

D) Debenture bondholder

Topic: 10.1 Common Stock

Keywords: market required yield

Principles: Principle 2: There Is a Risk-Return Tradeoff

29) What allows common stockholders the right to cast a number of votes equal to the number of

directors being elected?

A) The majority voting provision

B) The casting feature

C) The cumulative voting provision

D) The proxy method

Topic: 10.1 Common Stock

Keywords: voting rights

Principles: Principle 4: Market Prices Reflect Information

30) The shareholder can cast all votes for a single candidate or split them among various

candidates through:

A) proxy fights.

B) cumulative voting.

C) call provisions.

D) majority voting.

Topic: 10.1 Common Stock

Keywords: voting rights

Principles: Principle 4: Market Prices Reflect Information

31) You are considering the purchase of common stock that just paid a dividend of $6.50 per

share. Security analysts agree with top management in projecting steady growth of 12% in

dividends and earnings over the foreseeable future. Your required rate of return for stocks of this

type is 18%. How much should you expect to pay for this stock?

A) $86

B) $94

C) $108

D) $121

E) $242

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 4: Market Prices Reflect Information

32) You are considering the purchase of Wahoo, Inc. The firm just paid a dividend of $4.20 per

share. The stock is selling for $115 per share. Security analysts agree with top management in

projecting steady growth of 12% in dividends and earnings over the foreseeable future. Your

required rate of return for stocks of this type is 17.5%. If you were to purchase and hold the stock

for three years, what would the expected dividends be worth today?

A) $12.60

B) $9.21

C) $17.12

D) $15.55

E) $11.46

Topic: 10.1 Common Stock

Keywords: dividend growth

Principles: Principle 1: Money Has a Time Value