Economics 2298

Problem Set – Stock Pricing

Please complete and hand in Questions 1-10 only.

1) What would you pay for a share of ABC Inc. today if the next dividend will be $2 per
share, your required return on equity investments is 12% and the stock is expected to
be worth $110 one year from now?

2) The dividend on Simple Motors common stock will be $2 in one year, $3.50 in two
years, and $5 in three years. You can sell the stock for $75 in three years. If you
require a 10% return on your investment, how much would you be willing to pay for
a share of this stock today?

3) A stock that pays a constant dividend of $2.50 forever currently sells for $20. What is
the required rate of return?

4) Suppose that No Gro Inc has just issued a dividend of $2.90 per share. Subsequent
dividends will remain at $2.90 indefinitely. Returns on the stock of firms like NoGro
are currently running 15%. What is the value of one share of stock?

5) ABC Cos preferred stock pays constant dividends, and is selling for $25 per share. If
the required return is 12%, what will the dividend be two years from now?

6) The constant dividend paying preferred stock of the Inc. Co. pays a dividend of $3
and sells for $20. You believe the stock will sell for $12 in one year. You must
therefore believe that the required return on the stock will be how many percentage
points higher or lower next year?
7) What would you pay today for a stock that is expected to make a $1.50 dividend in
one year if the expected dividend growth rate is 3% and you require a 16% return on
your investment?

8) The stock of MTV Golf World currently sells for $133.75 per share. The firm has a
constant dividend growth of 7% and just paid a dividend of $6.25. If the required rate
of return is 12%, what will the stock sell for one year from now?

9) Suppose Pale House Inc. has just paid a dividend of $1.40 per share. Sales and profits
for the company are expected to grow at a rate of 5% per year. Its dividend is
expected to grow by the same amount. If the required return is 10%, what is the value
of a share of Pale House?

10) Boomer Products Inc. manufactures “no-inhale” cigarettes. As their target customers
age and die, sales of the product are expected to decline. Demographics suggest that
earnings and dividends will decline at a rate of 4% annually forever. The firm just
paid a dividend of $2.50, given a required return of 12%, the stock should today sell
for how much?

11) How much will the stock in 10) sell for in two years?

12) Llano’s stock is currently selling for $50. The expected dividend one year from now
is $1.50 and the required return is 10%. What is this firm’s dividend growth rate
assuming the constant dividend growth model is appropriate?

13) The current price of XYZ stock is $40. Dividends are expected to grow at 7%
indefinitely and the most recent dividend was $1. What is the required rate of return
on XYZ stock?

14) ABC Corp’s common stock dividend yield is 2.1%, it just paid a dividend of $1, and
is expected to pay a dividend of $1.07 one year from now. Dividends are expected to
grow at a constant rate indefinitely. What is the required rate of return on ABC stock?
15) Suppose that you have just purchased a share of stock for $22.50. The most recent
dividend was $1.50 and dividends are expected to grow at a rate of 5% indefinitely.
What must your required return be on the stock?

16) Killnum Corp announces that the dividend for the next year will be $2.50 per share
rather than the originally expected $1.50 per share. From then on, it is expected that
dividends will resume their historical constant growth rate of 5% per year. What
would you expect to happen to the price of the stock?

17) A firm currently pays no dividends. The firm plans to begin paying dividends in three
years. The first dividend will be $1 and dividends are expected to grow at 5%
thereafter. Given a required return of 15%, what would you pay for the stock today?

18) A firm currently pays no dividends, but the firm will begin paying dividends in three
years. The first dividend will be $2.50, and dividends are expected to grow at 2%
thereafter. Given a current market price of $55.62 is the required return on the stock
8% or 6%?

19) MMI currently pays a $1 annual dividend. Investors believe that dividends will grow
at 15% next year, 10% annually for the two years after that, and 5% annually
thereafter. Assume the required return is 10%. What is the current market price of the
stock?

20) Biogenetics Inc plans to retain and reinvest all of their earnings for the nest 30 years.
Beginning in year 31 the firm will begin to pay a $12 dividend per share. The
dividend will not subsequently change. Given a required return of 15%, what should
the stock sell for today?

21) If instead in question 20, the dividend was expected to increase at a rate of 6%
annually thereafter, what would be the stock price today?
22) Suppose a company is expected to pay a dividend next year of $1.75 per share. Both
sales and profits for the company yare expected to grow at a rate of 15% for the
following two years and then at 2% thereafter indefinitely. Dividend growth is
expected to match sales growth, if the required return is 14%, what is the value of a
share of this company?

23) Ego Inc. plans to retain and reinvest all of their earnings for the next three years; at
the end of year 3 the firm will pay a special dividend of $5 per share. Beginning ion
year 4 the firm will begin to pay a dividend of $1 per share, which is expected to
grow at a rate of 3% annually. Given a required return of 12%, what should the stock
sell for today?

24) MMI just paid a dividend of $2. The required return on the stock is 15%. If it has the
following expected dividend growth rates, what should the stock sell for?
Year Growth (%)
1&2 15
3 12
4+ 6

25) Suppose that sales and profits of OlyEnt are growing at a rate of 30% per year. At the
end of four years the growth rate will drop to a steady 4%. At the end of year 5, Oly
will issue its first dividend in the amount of $2 per share. If the required return is
16%, what is the value of a share of stock? Assume dividends grow at the same rate
as earnings after year 4.

26) EI’s dividend is expected to grow at 6% for the next two years and then at 3%
forever. If the current divided is $3 and the required return is 16%, what is the price
of the stock?
27) CCB stock is expected to sell for $22, two years from now. Supernormal growth of
5% is expected for the next two years. The current dividend is $1 and the required
return is 15%. What constant growth rate is expected beginning in year 3?