978-1259709685 Chapter 9 Case

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CHAPTER 9 CASE C-1

CHAPTER 9

STOCK VALUATION AT RAGAN THERMAL

SYSTEMS

1. The total dividends paid by the company were $640,000. Since there are 300,000 shares outstanding, the

total earnings for the company were:

This means the payout ratio was:

So, the retention ratio was:

Using the retention ratio, the company’s growth rate is:

Now we can value the company using the entire dividend payment. The total value of the company’s

equity under these assumptions is:

So, the value per share is:

2. Since Nautilus Marine Engines had a write off which affected its earnings per share, we need to

recalculate the industry EPS. So, the industry EPS is:

So, the industry retention ratio is

CHAPTER 9 CASE C-2

The company will continue to grow at its current pace for five years before slowing to the industry

growth rate. So, the total dividends for each of the next six years will be:

D1 = $640,000.00(1.1263) = $720,807.48

D2 = $720,807.48(1.1263) = $811,817.84

D3 = $811,817.84(1.1263) = $914,319.33

The total value of the stock in Year 5 with the industry required return will be:

Stock value in Year 5 = $1,250,384.00 / (.15 – .0781) = $17,395,308.29

This means the total value of the stock today is:

And the value per share of the stock today is:

3. Using the revised industry EPS, the industry PE ratio is:

Industry PE = $18.08 / $1.51 = 12.00

Using the original stock price assumption, Ragan’s PE ratio is:

4. Here, we must make an assumption. We have two estimates of the required return. Since we are assuming

the growth rate follows the growth rate assumption in Question 2, we will use the industry average

required return assumed in that question as well. The total earnings of the company which would be paid

out as a dividend as a cash cow are:

CHAPTER 9 CASE C-3

So, the value of Ragan as a cash cow is:

The total stock value with growth from Question 2 is $11,655,749.48, so the percentage of the value of

the company not attributable to growth opportunities is:

5. Again, we will assume the results in Question 2 are correct. The growth rate of the company we

calculated in this question was the industry growth rate of 7.81 percent. Since the growth rate is:

g = ROE × b

6. The most obvious solution is to retain more of the company’s earnings and invest in profitable