Investments & Securities Chapter 13 1 suppose that in 2012 the expected dividends of the stocks in a broad market index equaled $240 million when the discount rate was 8% and the expected

1. The accounting measure of a firm’s equity value generated by applying accounting

principles to asset and liability acquisitions is called ________.

2. The price-to-sales ratio is probably most useful for firms in which phase of the industry

life cycle?

3. If a firm increases its plowback ratio, this will probably result in _______ P/E ratio.

4. The value of Internet companies is based primarily on _____.

5. New-economy companies generally have higher _______ than old-economy companies.

6. P/E ratios tend to be _______ when inflation is ______.

7. Which one of the following statements about market and book value is correct?

8. Earnings yields tend to _______ when Treasury yields fall.

9. Which one of the following is a common term for the market consensus value of the

required return on a stock?

10. Which one of the following is equal to the ratio of common shareholders’ equity to

common shares outstanding?

11. 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 ________.

12. If a stock is correctly priced, then you know that ____________.

13. A stock has an intrinsic value of $15 and an actual stock price of $13.50. You know that

this stock ________.

14. Bill, Jim, and Shelly are all interested in buying the same stock that pays dividends. Bill

plans on holding the stock for 1 year. Jim plans on holding the stock for 3 years. Shelly plans on

holding the stock until she retires in 10 years. Which one of the following statements is correct?

15. A firm that has an ROE of 12% is considering cutting its dividend payout. The stockholders

of the firm desire a dividend yield of 4% and a capital gain yield of 9%. Given this information,

which of the following statements is (are) correct?

I. All else equal, the firm’s growth rate will accelerate after the payout change.

II. All else equal, the firm’s stock price will go up after the payout change.

III. All else equal, the firm’s P/E ratio will increase after the payout change.

16. A firm cuts its dividend payout ratio. As a result, you know that the firm’s _______.

17. __________ is the amount of money per common share that could be realized by breaking

up the firm, selling its assets, repaying its debt, and distributing the remainder to shareholders.

18. An underpriced stock provides an expected return that is ____________ the required return

based on the capital asset pricing model (CAPM).

19. Stockholders of Dogs R Us Pet Supply expect a 12% rate of return on their stock.

Management has consistently been generating an ROE of 15% over the last 5 years but now

believes that ROE will be 12% for the next 5 years. Given this, the firm’s optimal dividend payout

ratio is now ______.

20. The constant-growth dividend discount model (DDM) can be used only when the

___________.

21. Suppose that in 2012 the expected dividends of the stocks in a broad market index

equaled $240 million when the discount rate was 8% and the expected growth rate of the

dividends equaled 6%. Using the constant-growth formula for valuation, if interest rates increase

to 9%, the value of the market will change by _____.

22. 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

_________.

23. Each of two stocks, A and B, is expected to pay a dividend of $7 in the upcoming year. The

expected growth rate of dividends is 6% for both stocks. You require a return of 10% on stock A

and a return of 12% on stock B. Using the constant-growth DDM, the intrinsic value of stock A

_________.

24. You want to earn a return of 11% on each of two stocks, A and B. Stock A is expected to

pay a dividend of $3 in the upcoming year, while stock B is expected to pay a dividend of $2 in the

upcoming year. The expected growth rate of dividends for both stocks is 4%. Using the constant–

growth DDM, the intrinsic value of stock A _________.

25. You are considering acquiring a common share of Sahali Shopping Center Corporation

that you would like to hold for 1 year. You expect to receive both $1.25 in dividends and $35 from

the sale of the share at the end of the year. The maximum price you would pay for a share today is

__________ if you wanted to earn a 12% return.

26. 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 _________.

27. 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 _________.

28. Weyerhaeuser Incorporated has a balance sheet that lists $70 million in assets, $45

million in liabilities, and $25 million in common shareholders’ equity. It has 1 million common

shares outstanding. The replacement cost of its assets is $85 million. Its share price in the market

is $49. Its book value per share is _________.

29. Eagle Brand Arrowheads has expected earnings of $1.25 per share and a market

capitalization rate of 12%. Earnings are expected to grow at 5% per year indefinitely. The firm has

a 40% plowback ratio. By how much does the firm’s ROE exceed the market capitalization rate?

30. 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 _____.

31. 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 _________.

32. 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.

33. A firm is planning on paying its first dividend of $2 three years from today. After that,

dividends are expected to grow at 6% per year indefinitely. The stock’s required return is 14%.

What is the intrinsic value of a share today?

34. Rose Hill Trading Company is expected to have EPS in the upcoming year of $8. The

expected ROE is 18%. An appropriate required return on the stock is 14%. If the firm has a

plowback ratio of 70%, its dividend in the upcoming year should be _________.

35. Rose Hill Trading Company is expected to have EPS in the upcoming year of $6. The

expected ROE is 18%. An appropriate required return on the stock is 14%. If the firm has a

plowback ratio of 70%, its intrinsic value should be _________.

36. Cache Creek Manufacturing Company is expected to pay a dividend of $3.36 in the

upcoming year. Dividends are expected to grow at 8% per year. The risk-free rate of return is 4%,

and the expected return on the market portfolio is 14%. Investors use the CAPM to compute the

market capitalization rate and use the constant-growth DDM to determine the value of the stock.

The stock’s current price is $84. Using the constant-growth DDM, the market capitalization rate is

_________.

37. 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?