Question 1

The discounted free cash flow model ignores interest income and expense but adjusts for cash and debt directly.

Accepted Answer

The discounted free cash flow (DCF) model focuses on the cash flows generated by the operations of a business, ignoring interest income and expense because it adjusts for cash and debt directly in the valuation by considering the net debt position in the enterprise value calculation.

Question 2

Which of the following models can be used to value a firm without explicitly forecasting that firm's dividends,share repurchases,or its use of debt? I. Dividend-discount model
II)Total payout model
III) Discounted free cash flow model

Accepted Answer

The discounted free cash flow (DCF) model can be used to value a firm without explicitly forecasting its dividends, share repurchases, or use of debt. This is because the DCF model is based on projecting a firm's future free cash flows and discounting them back to the present value using a required rate of return. The dividend-discount model, on the other hand, explicitly relies on forecasting the firm's future dividend payments, and the total payout model focuses on the firm's historical or expected dividend and share repurchase behavior. Therefore, the best choice is C) III only, as the DCF model does not rely on explicit forecasting of dividends, share repurchases, or debt use.

Question 3

Cork Bottlers has 84 million shares outstanding and expects earnings at the end of this year of $54 million.Cork plans to pay out 30% of its earnings as a dividend and 10% of its earnings through share repurchases.The firm has an equity cost of capital of 12%.If Tarmac' earnings are expected to grow by 6.5% per year and these payout rates remain constant,what is Tarmac's share price?

Accepted Answer

C) PV(future total dividends and repurchases) = (0.4 × 54)/(0.12 - 0.065) = $393 million
Price per share = 393 million / 84 million = $4.68

Question 4

What is a major assumption about growth rate in the dividend-discount model?

Accepted Answer

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Question 5

Aaron Inc.has 316 million shares outstanding.It expects earnings at the end of the year to be $602 million.The firm's equity cost of capital is 11.5%.Aaron pays out 50% of its earnings in total: 30% paid out as dividends and 20% used to repurchase shares.If Aaron's earnings are expected to grow at a constant 6% per year,what is Aaron's share price?

Accepted Answer

B) P₀ = (0.5 × $602) / (0.115 -.06) = $5,473 million; per share = $5,473/316 = $17.32

Question 6

Use the table for the question(s) below.
 
-Conundrum Mining is expected to generate the above free cash flows over the next four years,after which they are expected to grow at a rate of 5% per year.If the weighted average cost of capital is 12% and Conundrum has cash of $80 million,debt of $60 million,and 30 million shares outstanding,what is Conundrum's expected current share price?

Accepted Answer

A) FCF5 = 26 × (1.05) = 27.3; V4 = 27.3 / (0.12 - 0.05) = 390;
using the CF function of a financial calculator, V0 = 305.09846;
P0 = (305.09846 + 80 - 60) / 30 = $10.84

Question 7

Valence Electronics has 217 million shares outstanding.It expects earnings at the end of the year of $760 million.Valence pays out 40% of its earnings in total-15% paid out as dividends and 25% used to repurchase shares.If Valences earnings are expected to grow by 6% per year,these payout rates do not change,and Valence's equity cost of capital is 8%,what is Valences share price?

Accepted Answer

D) P0 = (0.4 × 760) / (0.08 - 0.06) = $15,200 million; per share = 15,200 / 217 = $70.05

Question 8

Can the dividend-discount model handle negative growth rates?

Accepted Answer

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Question 9

What is the relationship between the growth rate and the cost of equity implied in the dividend-discount model?

Accepted Answer

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Question 10

What are the major limitations of the dividend-discount model?

Accepted Answer

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Question 11

Chittenden Enterprises has 632 million shares outstanding.It expects earnings at the end of the year to be $940 million.The firm's equity cost of capital is 10%.Chittenden pays out 30% of its earnings in total: 20% paid out as dividends and 10% used to repurchase shares.If Chittenden's earnings are expected to grow at a constant 4% per year,what is Chittenden's share price?

Accepted Answer

C) P₀ = (0.3 × $940) / (0.10 - 0.04) = $4,700 million; per share = $4,700/632 = $7.44

Question 12

Parminder Partners is expected to generate free cash flows of $4 million per year for the next 5 years,after which they are expected to grow at a rate of 3% per year.The firm currently has $2 million of cash,$7 million of debt,and a cost of capital of 8%.If the firm has 10 million shares outstanding,what is Parminder's expected current share price?

Accepted Answer

A) FCF6 = 4 × (1.03) = 4.12; V5 = 4.12 / (0.08 - 0.03) = 82.4;
using the CF function of a financial calculator, V0 = 72.13;
P0 = (72.13 + 2 - 7) / 10 = $6.71

Question 13

Forecasting dividends requires forecasting the firm's future earnings.

Accepted Answer

Dividend payments are typically funded from a company's earnings, therefore forecasting future dividends requires forecasting the firm's future earnings.

Question 14

With more firms introducing stock repurchase plans,how can we value such firms?

Accepted Answer

The answer of With more firms introducing stock repurchase plans,how...

Question 15

Stocks that do not pay a dividend must have a value of $0.

Accepted Answer

Stocks that do not pay a dividend can still have value based on their potential for future growth or earnings, as well as their perceived market value. The value of a stock is not solely based on its dividend payments.

Question 16

If you want to value a firm that has consistent earnings growth,but varies how it pays out these earnings to shareholders between dividends and repurchases,the simplest model for you to use is the

Accepted Answer

The total payout model takes into account both dividends and repurchases, which is appropriate for a firm that varies its payout methods. This model values the firm based on the total amount of cash that is paid out to shareholders over time, rather than just focusing on one method of payout. The other models listed may not take into account the variability in payout methods and may not provide an accurate valuation.

Question 17

Flinders Corporation's shares currently cost $32.00,and it has 80 million shares outstanding.If it pays out 70% of its earnings in total and its equity cost of capital is 10 percent,what are Flinders' earnings,given that these earnings are expected to grow by 5% per year in the future?

Accepted Answer

D) Value of firm = 32 × 80 = 2560; earnings paid out = 2560 × (0.1 - 0.05) = 128;
total earnings = 128 / 0.7 = $182.86 million

Question 18

How can the dividend-discount model handle changing growth rates?

Accepted Answer

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Question 19

Tarmac Airlines has 115 million shares outstanding and expects earnings at the end of this year of $370 million.Tarmac plans to pay out 40% of its earnings as a dividend and 20% of its earnings through share repurchases.The firm has an equity cost of capital of 8%.If Tarmac' earnings are expected to grow by 3% per year and these payout rates remain constant,what is Tarmac's share price?

Accepted Answer

A) PV(future total dividends and repurchases) = (0.6 × 370)/(0.08 - 0.03) = $4.44 billion
Price per share = 4.44 billion / 115 million = $38.61

Question 20

If a firm has leverage,it is best to use the total payout model to determine the firm's value.

Accepted Answer

The total payout model assumes a firm has no debt, so it is not best suited for determining the value of a leveraged firm. The discounted cash flow model would be a more appropriate method for valuing a leveraged firm.

Quiz 7: Valuing Stocks