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Chapter 9: Stocks M/C Problems Page 333
b. $406
c. $428
d. $450
e. $473
Page 334 M/C Problems Chapter 9: Stocks
70. Based on the corporate valuation model, Gay Entertainment's total
corporate value is $1,200 million. The company’s balance sheet shows
$120 million of notes payable, $300 million of long-term debt, $50
million of preferred stock, $180 million of retained earnings, and $800
million of total common equity. If the company has 30 million shares
of stock outstanding, what is the best estimate of its price per share?
a. $21.90
b. $24.33
c. $26.77
d. $29.44
e. $32.39
71. Based on the corporate valuation model, the total corporate value of
Chen Lin Inc. is $900 million. Its balance sheet shows $110 million in
notes payable, $90 million in long-term debt, $20 million in preferred
stock, $140 million in retained earnings, and $280 million in total
common equity. If the company has 25 million shares of stock
outstanding, what is the best estimate of its stock price per share?
a. $22.03
b. $24.48
c. $27.20
d. $29.92
e. $32.91
72. Based on the corporate valuation model, Morgan Inc.’s total corporate
value is $300 million. The balance sheet shows $90 million of notes
payable, $30 million of long-term debt, $40 million of preferred stock,
and $100 million of common equity. The company has 10 million shares
of stock outstanding. What is the best estimate of the stock’s price
per share?
a. $12.00
b. $12.64
c. $13.30
d. $14.00
e. $14.70
73. Carter's preferred stock pays a dividend of $1.00 per quarter. If the
price of the stock is $45.00, what is its nominal (not effective)
annual rate of return?
a. 8.03%
b. 8.24%
c. 8.45%
d. 8.67%
e. 8.89%
Chapter 9: Stocks M/C Problems Page 335
74. Rebello's preferred stock pays a dividend of $1.00 per quarter, and it
sells for $55.00 per share. What is its effective annual (not nominal)
rate of return?
a. 6.62%
b. 6.82%
c. 7.03%
d. 7.25%
e. 7.47%
75. Nachman Industries just paid a dividend of D0 = $1.32. Analysts expect
the company's dividend to grow by 30% this year, by 10% in Year 2, and
at a constant rate of 5% in Year 3 and thereafter. The required return
on this low-risk stock is 9.00%. What is the best estimate of the
stock’s current market value?
a. $41.59
b. $42.65
c. $43.75
d. $44.87
e. $45.99
76. Church Inc. is presently enjoying relatively high growth because of a
surge in the demand for its new product. Management expects earnings
and dividends to grow at a rate of 25% for the next 4 years, after
which competition will probably reduce the growth rate in earnings and
dividends to zero, i.e., g = 0. The company’s last dividend, D0, was
$1.25, its beta is 1.20, the market risk premium is 5.50%, and the
risk-free rate is 3.00%. What is the current price of the common
stock?
a. $26.77
b. $27.89
c. $29.05
d. $30.21
e. $31.42
77. The Ramirez Company's last dividend was $1.75. Its dividend growth
rate is expected to be constant at 25% for 2 years, after which
dividends are expected to grow at a rate of 6% forever. Its required
return (rs) is 12%. What is the best estimate of the current stock
price?
a. $41.58
b. $42.64
c. $43.71
d. $44.80
e. $45.92
Page 336 M/C Problems Chapter 9: Stocks
78. Ackert Company's last dividend was $1.55. The dividend growth rate is
expected to be constant at 1.5% for 2 years, after which dividends are
expected to grow at a rate of 8.0% forever. The firm's required return
(rs) is 12.0%. What is the best estimate of the current stock price?
a. $37.05
b. $38.16
c. $39.30
d. $40.48
e. $41.70
79. Huang Company's last dividend was $1.25. The dividend growth rate is
expected to be constant at 15% for 3 years, after which dividends are
expected to grow at a rate of 6% forever. If the firm's required
return (rs) is 11%, what is its current stock price?
a. $30.57
b. $31.52
c. $32.49
d. $33.50
e. $34.50
80. Agarwal Technologies was founded 10 years ago. It has been profitable
for the last 5 years, but it has needed all of its earnings to support
growth and thus has never paid a dividend. Management has indicated
that it plans to pay a $0.25 dividend 3 years from today, then to
increase it at a relatively rapid rate for 2 years, and then to
increase it at a constant rate of 8.00% thereafter. Management's
forecast of the future dividend stream, along with the forecasted
growth rates, is shown below. Assuming a required return of 11.00%,
what is your estimate of the stock's current value?
Year 0 1 2 3 4 5 6
Growth rate NA NA NA NA 50.00% 25.00% 8.00%
Dividends $0.000 $0.000 $0.000 $0.250 $0.375 $0.469 $0.506
a. $ 9.94
b. $10.19
c. $10.45
d. $10.72
e. $10.99
Chapter 9: Stocks M/C Problems Page 337
81. Wall Inc. forecasts that it will have the free cash flows (in millions)
shown below. If the weighted average cost of capital is 14% and the
free cash flows are expected to continue growing at the same rate after
Year 3 as from Year 2 to Year 3, what is the firm’s total corporate
value, in millions?
Year 1 2 3
Free cash flow -$20.00 $48.00 $54.00
a. $2,650.00
b. $2,789.47
c. $2,928.95
d. $3,075.39
e. $3,229.16
82. Savickas Petroleum’s stock has a required return of 12%, and the stock
sells for $40 per share. The firm just paid a dividend of $1.00, and
the dividend is expected to grow by 30% per year for the next 4 years,
so D4 = $1.00(1.30)4 = $2.8561. After t = 4, the dividend is expected
to grow at a constant rate of X% per year forever. What is the stock’s
expected constant growth rate after t = 4, i.e., what is X?
a. 5.17%
b. 5.44%
c. 5.72%
d. 6.02%
e. 6.34%
83. Your boss, Sally Maloney, treasurer of Fred Clark Enterprises (FCE),
asked you to help her estimate the intrinsic value of the company's
stock. FCE just paid a dividend of $1.00, and the stock now sells for
$15.00 per share. Sally asked a number of security analysts what they
believe FCE's future dividends will be, based on their analysis of the
company. The consensus is that the dividend will be increased by 10%
during Years 1 to 3, and it will be increased at a rate of 5% per year
in Year 4 and thereafter. Sally asked you to use that information to
estimate the required rate of return on the stock, rs, and she provided
you with the following template for use in the analysis.
Estimated rs = 10.00% (must be changed to force Calculated Price to equal the Actual Market Price)
$15.00
Year 0 1 2 3 4 5
Dividend growth rate (insert correct values) 10% 10% 10% 5% 5%
Calculated dividends (D0 has been paid) $1.00 ? ? ? ? ?
HV3 = P3 = D4/(rs − g4). Find using Estimated rs. ?
Total CFs ? ? ?
PVs of CFs when discounted at Estimated rs? ? ?
Calculated Price = P0 = Sum of PVs = $0.00 A positive number will be here when dividends are estimated.
The Calculated Price will equal the Actual Market Price once the
correct rs has been found.
Normal growth
Rapid growth
Actual Market Price, P0:
Sally told you that the growth rates in the template were just put in
as a trial, and that you must replace them with the analysts'
forecasted rates to get the correct forecasted dividends and then the
estimated HV. She also notes that the estimated value for rs, at the
top of the template, is also just a guess, and you must replace it with
a value that will cause the Calculated Price shown at the bottom to
equal the Actual Market Price. She suggests that, after you have put in
the correct dividends, you can manually calculate the price, using a
series of guesses as to the Estimated rs. The value of rs that causes
the calculated price to equal the actual price is the correct one. She
notes, though, that this trial-and-error process would be quite
tedious, and that the correct rs could be found much faster with a
simple Excel model, especially if you use Goal Seek. What is the value
of rs?
a. 11.84%
b. 12.21%
c. 12.58%
d. 12.97%
e. 13.36%
Appendix 9A: Stock Market Equilibrium True/False Page 339
(Difficulty Levels: Easy, Easy/Medium, Medium, Medium/Hard, and Hard)
Note that there is some overlap between the T/F and the multiple choice questions, as some T/F
statements are used in the MC questions. See the preface for information on the AACSB letter
indicators (F, M, etc.) on the subject lines.
Multiple Choice: True/False
84. If a stock's expected return as seen by the marginal investor exceeds
this investor's required return, then the investor will buy the stock
until its price has risen enough to bring the expected return down to
equal the required return.
a. True
b. False
85. If a stock's market price exceeds its intrinsic value as seen by the
marginal investor, then the investor will sell the stock until its
price has fallen down to the level of the investor's estimate of the
intrinsic value.
a. True
b. False
86. For a stock to be in equilibrium, two conditions are necessary: (1) The
stock's market price must equal its intrinsic value as seen by the
marginal investor and (2) the expected return as seen by the marginal
investor must equal this investor's required return.
a. True
b. False
87. Two conditions are used to determine whether or not a stock is in
equilibrium: (1) Does the stock's market price equal its intrinsic
value as seen by the marginal investor, and (2) does the expected
return on the stock as seen by the marginal investor equal this
investor's required return? If either of these conditions, but not
necessarily both, holds, then the stock is said to be in equilibrium.
a. True
b. False
APPENDIX 9A
STOCK MARKET EQUILIBRIUM
Multiple Choice: Conceptual
88. If markets are in equilibrium, which of the following conditions will
exist?
a. Each stock’s expected return should equal its realized return as seen
by the marginal investor.
b. Each stock’s expected return should equal its required return as seen
by the marginal investor.
c. All stocks should have the same expected return as seen by the
marginal investor.
d. The expected and required returns on stocks and bonds should be
equal.
e. All stocks should have the same realized return during the coming
89. For a stock to be in equilibrium, that is, for there to be no long-term
pressure for its price to depart from its current level, then
a. the expected future return must be less than the most recent past
realized return.
b. the past realized return must be equal to the expected return during
the same period.
c. the required return must equal the realized return in all periods.
d. the expected return must be equal to both the required future return
and the past realized return.
e. the expected future return must be equal to the required return.
CHAPTER 9
ANSWERS AND SOLUTIONS
Page 342 Answers Chapter 9: Stocks
Chapter 9: Stocks Answers Page 343
