Question 1

A stock recently paid a dividend of $2.5 per share.Its growth rate is expected to be 8 percent.Investors require a 10 percent return.The stock is selling in the market for $150.What is this stock worth and is the stock undervalued or overvalued?

Accepted Answer

2.5(1.08)/[0.1 − 0.08] = $135; overvalued

Question 2

Suppose Walmart (WMT)recently earned a profit of $5.10 per share and has a P/E ratio of 16.25.The dividend has been growing at a 6 percent rate over the past few years.If this growth continues,what would be the stock price in five years if the P/E ratio remained unchanged? What would the price be if the P/E ratio declined to 12 in five years?

Accepted Answer

$5.10 = PV, 6 = I, 0 = PMT, 5 = N, CPT FV = $6.8250
$6.8250 × 16.25 = $110.9054
$6.8250 × 12 = $81.90

Question 3

Laura is considering two investments: Stock A and B.Both stocks have a P/E ratio of 19.Stock A has an expected growth rate of 5 percent and stock B has an expected growth rate of 13 percent.Which is the better stock and why?

Accepted Answer

Stock B is better because a higher expected growth rate (13 percent) suggests that it will generate more earnings in the future compared to Stock A (5 percent growth rate), making it more attractive despite both having the same P/E ratio.

Question 4

Coca-Cola recently paid a $3.00 dividend.Investors expect a 12 percent return on this stock.What is the percentage change in price if Coca-Cola is expected to grow at 7 percent versus 8 percent?

Accepted Answer

Step 1: Price at 7 percent growth: 3(1.07)/[0.12 − 0.07] = $64.20; Step 2: Price at 8 percent growth: 3(1.08)/[0.12 − 0.08] = $81; Difference in price = $16.8; Percentage change in price = 16.8/64.20

Question 5

If Target Corp.(TGT)recently earned a profit of $6.07 earnings per share and has a P/E ratio of 16.5.The dividend has been growing at a 10 percent rate over the past few years.If this growth continues,what would be the stock price in five years if the P/E ratio remained unchanged? What would the price be if the P/E ratio increased to 18 in five years?

Accepted Answer

$6.07 = PV, 10 = I, 0 = PMT, 5 = N, CPT FV = $9.7758
$9.7758 × 16.5 = $161.3006
$9.7758 × 18 = $175.9644

Question 6

Coca-Cola recently paid a $3.00 dividend.Investors expect a 12 percent return on this stock.What is the difference in price if Coca-Cola is expected to grow at 7 percent versus 8 percent?

Accepted Answer

Step 1: Price at 7 percent growth: 3(1.07)/[0.12 − 0.07] = $64.20; Step 2: Price at 8 percent growth: 3(1.08)/[0.12 − 0.08] = $81; Difference in price = $16.8

Question 7

A preferred stock from DLC pays $5.10 in annual dividends.If the required return on the preferred stock is 12.1 percent,what is the value of the stock?

Accepted Answer

5.10/0.121 = $42.1488

Question 8

Which of the following statements is incorrect?

Accepted Answer

All the statements provided are correct. Preferred stock prices do indeed fluctuate with market interest rates similarly to corporate bonds, common stock prices change with the value of the underlying business, and preferred stockholders have a higher claim on assets than common stockholders in the event of liquidation.

Question 9

A firm's stock is selling at $95.00 per share.Its growth rate is 10 percent and investors demand 15 percent on this stock.What is the firm's expected dividend?

Accepted Answer

95 = DIV/0.15 − 0.10; DIV = 4.75

Question 10

A firm's stock is selling at $75.00 per share.Its growth rate is 10 percent and investors demand 17 percent on this stock.What is the firm's expected dividend?

Accepted Answer

75 = DIV/0.17 − 0.10; DIV = 5.25

Question 11

At your full-service brokerage firm,it costs $125 per stock trade.How much money do you receive after selling 200 shares of Time Warner,Inc.(TMX),which trades at $29.54?

Accepted Answer

($29.54 per share times 200 shares) − $125 = $5,783.00

Question 12

A firm does not pay a dividend.It is expected to pay its first dividend of $1.00 per share in two years.This dividend will grow at 5 percent indefinitely.Using a 12 percent discount rate,compute the value of this stock.

Accepted Answer

Step 1:
P2 = (1.00 × 1.05)/(0.12 − 0.05) = $15.00
Step 2: FV = 15.00 + 1.00 = $16.00
N = 2, I = 12, PMT = 0, CPT PV = $12.7551

Question 13

At your discount brokerage firm,it costs $10.50 per stock trade.How much money do you need to buy 100 shares of Apple (AAPL),which trades at $202.64?

Accepted Answer

($202.64 per share times 100 shares) + $10.50 = $20,274.50

Question 14

Suppose that a firm's recent earnings per share and dividends per share are $5.00 and $1.00,respectively.Both are expected to grow at 5 percent.However,the firm's current P/E ratio of 18 seems high for this growth rate.The P/E ratio is expected to fall to 10 within five years.Compute a value for this stock by first estimating the dividends over the next five years and the stock price in five years.Then discount these cash flows using a 12 percent required rate.

Accepted Answer

D1 = $1.00 × 1.05 = $1.05 = C01, 1 F01
D2 = $1.05 × 1.05 = $1.1025 = C02, 1 F02
D3 = $1.1025 × 1.05 = $1.1576 = C03, 1 F03
D4 = $1.1576 × 1.05 = $1.2155 = C04, 1 F04
D5 = $1.2155 × 1.05 = $1.2763
P5 = 10 × $5.00 × (1.05)^5 = 63.8141
D5 + P5 = 65.0904 = C05, 1 F05
I = 12
NPV = $40.3469

Question 15

You would like to buy shares of Nokia (NOK).The current bid and ask quotes are $25.43 and $25.45,respectively.You place a market buy-order for 150 shares that executes at these quoted prices.How much money did it cost to buy these shares?

Accepted Answer

$25.45 per share times 150 shares = $3,817.50

Question 16

You would like to buy shares of International Business Machines (IBM).The current bid and ask quotes are $103.25 and $103.30,respectively.You place a market buy-order for 200 shares that executes at these quoted prices.How much money did it cost to buy these shares?

Accepted Answer

$103.30 per share times 200 shares = $20,660.00

Question 17

Coca-Cola recently paid a $3.00 dividend.Investors expect a 12 percent return on this stock.What is the difference in price if Coca-Cola is expected to grow at 6 percent versus 8 percent?

Accepted Answer

Step 1: Price at 6 percent growth: 3(1.06)/[0.12 − 0.06] = $53; Step 2: Price at 8 percent growth: 3(1.08)/[0.12 − 0.08] = $81; Difference in price = $28

Question 18

A firm does not pay a dividend.It is expected to pay its first dividend of $1.50 per share in three years.This dividend will grow at 6 percent indefinitely.Using a 10 percent discount rate,compute the value of this stock.

Accepted Answer

Step 1:
P2 = (1.50 × 1.06)/(0.10 − 0.06) = $39.75
Step 2: FV = 39.75 + 1.50 = $41.25
N = 3, I = 10, PMT = 0, CPT PV = $30.9917

Question 19

A stock recently paid a dividend of $3 per share.Its growth rate is expected to be 8 percent.Investors require a 10 percent return.The stock is selling in the market for $140.What is this stock worth and is the stock undervalued or overvalued?

Accepted Answer

3(1.08)/[0.1 − 0.08] = $162; undervalued

Quiz 8: Valuing Stocks