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06 Chapter - Stock Valuation
Chapter 06
Stock Valuation
Multiple Choice Questions
1. An asset characterized by cash flows that increase at a constant rate forever is called a:
A. preferred stock.
B. growing annuity.
C. common annuity.
D. perpetuity due.
E. growing perpetuity.
2. The stock valuation model that determines the current stock price by dividing the next
annual dividend amount by the excess of the discount rate less the dividend growth rate is
called the _____ model.
A. zero growth
B. dividend growth
C. capital pricing
D. earnings capitalization
E. differential growth
3. Next year's annual dividend divided by the current stock price is called the:
A. yield to maturity.
B. total yield.
C. dividend yield.
D. capital gains yield.
E. earnings yield.
4. The rate at which a stock's price is expected to appreciate (or depreciate) is called the
_____ yield.
A. current
B. total
C. dividend
D. capital gains
E. earnings
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Chapter 06 - Stock Valuation
5. A form of equity which receives preferential treatment in the payment of dividends is
called _____ stock.
A. preferred
B. cumulative
C. common
D. dual class
E. deferred
6. A _____ is a form of equity security that has a stated liquidating value.
A. debenture
B. bond
C. preferred stock
D. common stock
E. proxy
7. A form of equity which receives no preferential treatment in either the payment of
dividends or in bankruptcy distributions is called _____ stock.
A. preferred
B. common
C. deferred
D. dual class
E. cumulative
8. The voting procedure whereby shareholders may cast all of their votes for one member of
the board is called _____ voting.
A. democratic
B. cumulative
C. straight
D. deferred
E. proxy
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Chapter 06 - Stock Valuation
9. The voting procedure where you must own 50% plus one of the outstanding shares of stock
to guarantee that you will win a seat on the board of directors is called _____ voting.
A. proxy
B. cumulative
C. deferred
D. straight
E. democratic
10. The voting procedure where a shareholder grants authority to another individual to vote
his/her shares is called _____ voting.
A. proxy
B. deferred
C. straight
D. cumulative
E. democratic
11. Preemptive rights refer to the right of shareholders to:
A. share proportionately in dividends paid.
B. override the votes of other shareholders.
C. vote at annual shareholder meetings.
D. share proportionately in liquidated assets.
E. share proportionately in any new stock issues sold.
12. Payments made by a corporation to its shareholders, in the form of either cash, stock or
payments in kind, are called:
A. retained earnings.
B. net income.
C. dividends.
D. redistributions.
E. infused equity.
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Chapter 06 - Stock Valuation
13. The market in which new securities are originally sold to investors is called the _____
market.
A. dealer
B. auction
C. over-the-counter
D. secondary
E. primary
14. The market in which previously issued securities are traded among investors is called the
_____ market.
A. primary
B. auction
C. secondary
D. over-the-counter
E. dealer
15. An agent who buys and sells securities from inventory is called a:
A. broker.
B. dealer.
C. principal.
D. capitalist.
E. trader.
16. An agent who arranges security transactions among investors without maintaining an
inventory is called a:
A. broker.
B. trader.
C. capitalist.
D. principal.
E. dealer.
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Chapter 06 - Stock Valuation
17. The owner of a seat on the New York Stock Exchange is called a(n) _____ of the
exchange.
A. member
B. friend
C. dealer
D. trustee
E. agent
18. A member of the New York Stock Exchange acting as a dealer in one or more securities
on the exchange floor is called a:
A. floor trader.
B. floor post.
C. specialist.
D. floor broker.
E. commission broker.
19. A member of the New York Stock Exchange who executes orders for commission brokers
on a fee basis is a:
A. floor trader.
B. dealer.
C. specialist.
D. floor broker.
E. floor agent.
20. A member of the New York Stock Exchange who executes buy and sell orders directly
from customers once transmitted to the exchange floor is called a:
A. dealer.
B. floor trader.
C. commission broker.
D. floor broker.
E. specialist
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Chapter 06 - Stock Valuation
21. A member of the New York Stock Exchange who trades for his or her own account, trying
to anticipate temporary price fluctuations, is called a(n):
A. specialist.
B. floor broker.
C. floor trader.
D. exchange customer.
E. commission broker.
22. The electronic system used by the New York Stock Exchange which enables orders to be
transmitted directly to a specialist is called the ______ system.
A. Instinet
B. Internet
C. NASDAQ
D. SuperDOT
E. brokerage
23. The ________ has a multiple market maker system rather than a specialist system.
A. NASDAQ
B. NIKKEI
C. NYSE
D. AMEX
E. None of the above.
24. A securities market primarily comprised of dealers who buy and sell for their own
inventories is generally referred to as a(n) ______ market.
A. private
B. auction
C. electronic network
D. regional
E. over-the-counter
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Chapter 06 - Stock Valuation
25. Electronic communications networks, or ECNs, act to:
A. increase the cost to invest.
B. increase competition.
C. increase liquidity.
D. A & B.
E. B & C.
26. The James River Co. pays an annual dividend of $1.50 per share on its common stock.
This dividend amount has been constant for the past 15 years and is expected to remain
constant. Given this, one share of James River Co. stock:
A. is basically worthless as it offers no growth potential.
B. is valued with an assumed growth rate of 3%.
C. has a market value of $15.00.
D. has a market value equal to the present value of $1.50 paid one year from today.
E. is valued as if the dividend paid is a perpetuity.
27. The common stock of the Kenwith Co. pays a constant annual dividend. Thus, the market
price of Kenwith stock will:
A. decrease when the market rate of return increases.
B. increase when the market rate of return increases.
C. decrease over time.
D. increase over time.
E. always remain constant.
28. The Koster Co. currently pays an annual dividend of $1.00 and plans on increasing that
amount by 5% each year. The Keyser Co. currently pays an annual dividend of $1.00 and
plans on increasing its dividend by 3% annually. Given this, it can be stated with certainty
that the _____ of the Koster Co. stock is greater than the _____ of the Keyser Co. stock.
A. market price; market price
B. total return; total return
C. dividend yield; dividend yield
D. capital gains; dividend yield
E. None of the above.
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Chapter 06 - Stock Valuation
29. The constant dividend growth model:
I. assumes that dividends increase at a constant rate forever.
II. can be used to compute a stock price at any point in time.
III. states that the market price of a stock is only affected by the amount of the dividend.
IV. considers capital gains but ignores the dividend yield.
A. I only
B. II only
C. III and IV only
D. I and II only
E. I, II, and III only
30. The underlying assumption of the dividend growth model is that a stock is worth:
A. the present value of the future income that the stock generates.
B. the same amount to every investor regardless of his desired rate of return.
C. an amount computed as the next annual dividend divided by the market rate of return.
D. an amount computed as the next annual dividend divided by the required rate of return.
E. the same amount as any other stock that pays the same current dividend and has the same
required rate of return.
31. Assume that you are using the dividend growth model to value stocks. If you expect the
market rate of return to increase across the board on all equity securities, then you should also
expect the:
A. market values of all stocks to increase, all else constant.
B. market values of all stocks to remain constant as the dividend growth will offset the
increase in the market rate.
C. dividend growth rates to increase to offset this change.
D. stocks that do not pay dividends to decrease in price while the dividend-paying stocks
maintain a constant price.
E. market values of all stocks to decrease, all else constant.
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Chapter 06 - Stock Valuation
32. Latcher's Inc. is a relatively new firm that is still in a period of rapid development. The
company plans on retaining all of its earnings for the next six years. Seven years from now,
the company projects paying an annual dividend of $.25 a share and then increasing that
amount by 3% annually thereafter. To value this stock as of today, you would most likely
determine the value of the stock _____ years from today before determining today's value.
A. 4
B. 5
C. 6
D. 7
E. 8
33. The Robert Phillips Co. currently pays no dividend. The company is anticipating
dividends of $0, $0, $0, $.10, $.20, and $.30 over the next 6 years, respectively. After that, the
company anticipates increasing the dividend by 4% annually. The first step in computing the
value of this stock today, is to compute the value of the stock when it reaches constant growth
in year:
A. 3
B. 4
C. 5
D. 6
E. 7
34. Differential growth refers to a firm that increases its dividend by:
A. three or more percent per year.
B. $.10 or more per year.
C. a constant rate of two or more percent per year.
D. an amount in excess of $.15 year.
E. a rate which is most likely not sustainable over an extended period of time.
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Chapter 06 - Stock Valuation
35. The total rate of return earned on a stock is composed of which two of the following?
I. current yield
II. yield to maturity
III. dividend yield
IV. capital gains yield
A. I and II only
B. I and IV only
C. II and III only
D. II and IV only
E. III and IV only
36. The total rate of return on a stock can be positive even when the price of the stock
depreciates because of the:
A. capital appreciation.
B. real rate of return.
C. interest yield.
D. supernormal growth.
E. dividend yield.
37. Fred Flintlock wants to earn a total of 10% on his investments. He recently purchased
shares of ABC stock at a price of $20 a share. The stock pays a $1 a year dividend. The price
of ABC stock needs to _____ if Fred is to achieve his 10% rate of return.
A. remain constant
B. decrease by 5%
C. increase by 5%
D. increase by 10%
E. increase by 15%
38. Which one of the following correctly defines the constant dividend growth model?
A. R = (D1 P0) + g
B. P0 = (D1 R) + g
C. R = (P0 D0) + g
D. P0 = D0 (R-g)
E. D0 = P0 (R-g)
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Chapter 06 - Stock Valuation
39. Shareholders generally have the right to:
I. elect the corporate directors.
II. select the senior management of the firm.
III. elect the chief executive officer (CEO).
IV. elect the chief operating officer (COO).
A. I only
B. I and III only
C. II only
D. I and II only
E. III and IV only
40. Jack owns 35 shares of stock in Beta, Inc. and wants to exercise as much control as
possible over the company. Beta, Inc. has a total of 100 shares of stock outstanding. Each
share receives one vote. Presently, the company is voting to elect two new directors. Which
one of the following statements must be true given this information?
A. If straight voting applies, Jack is assured one seat on the board.
B. If straight voting applies, Jack can control both open seats.
C. If cumulative voting applies, Jack is assured one seat on the board.
D. If cumulative voting applies, Jack can control both open seats.
E. Regardless of the type of voting employed, Jack does not own enough shares to control any
of the seats.
41. ABC Co. is owned by a group of shareholders who all vote independently and who all
want personal control over the firm. If straight voting is utilized, a shareholder:
A. must either own enough shares to totally control the elections or else he/she has no control
whatsoever.
B. will be able to elect at least one director as long as there are at least three open positions
and the shareholder owns at least 25% plus one of the outstanding shares.
C. must own at least two-thirds of the shares, plus one, to exercise control over the elections.
D. is only permitted to elect one director, regardless of the number of shares owned.
E. who owns more shares than anyone else, regardless of the percentage of outstanding shares
owned, will control the elections.
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Chapter 06 - Stock Valuation
42. The Zilo Corp. has 1,000 shareholders and is preparing to elect three new board members.
You do not own enough shares to control the elections but are determined to oust the current
leadership. The most likely result of this situation is a:
A. negotiated settlement where you are granted control over one of the three open positions.
B. legal battle for control of the firm based on your discontent as an individual shareholder.
C. arbitrated settlement whereby you are granted control over one of the three open positions.
D. total loss of power for you since you are a minority shareholder.
E. proxy fight for control of the firm.
43. Common stock shareholders are generally granted rights which include the right to:
I. share in company profits.
II. vote for company directors.
III. vote on proposed mergers.
IV. residual assets in a liquidation.
A. I and II only
B. II and III only
C. I and IV only
D. I, II, and IV only
E. I, II, III, and IV
44. The Scott Co. has a general dividend policy whereby it pays a constant annual dividend of
$1 per share of common stock. The firm has 1,000 shares of stock outstanding. The company:
A. must always show a current liability of $1,000 for dividends payable.
B. is obligated to continue paying $1 per share per year.
C. must still declare each dividend before it becomes an actual company liability.
D. has a liability which must be paid at a later date should the company miss paying an annual
dividend payment.
E. will be declared in default and can face bankruptcy if it does not pay $1 per year to each
shareholder on a timely basis.
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Chapter 06 - Stock Valuation
45. The dividends paid by a corporation:
I. to an individual become taxable income of that individual.
II. reduce the taxable income of the corporation.
III. are declared by the chief financial officer of the corporation.
IV. to another corporation may or may not represent taxable income to the recipient.
A. I only
B. I and IV only
C. II and III only
D. I, II, and IV only
E. I, III, and IV only
46. The owner of preferred stock:
A. has the right to declare the company bankrupt whenever there are insufficient funds to pay
dividends to the common shareholders.
B. has the right to veto the outcome of an election held by the common shareholders.
C. is entitled to a distribution of income prior to the common shareholders.
D. has the right to collect payment on any unpaid dividends as long as the stock is noncumulative preferred.
E. receives tax-free dividends if he is an individual and owns more than 20% of the
outstanding preferred shares.
47. A 8% preferred stock priced at $100 per share should pay _____ a year in dividends per
share.
A. $3
B. $6
C. $8
D. $30
E. $60
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Chapter 06 - Stock Valuation
48. Which one of the following statements concerning preferred stock is correct?
A. Unpaid preferred dividends are a liability of the firm.
B. Preferred dividends must be paid quarterly provided the firm has net income that exceeds
the amount of the quarterly dividend.
C. Preferred dividends must be paid timely each quarter or the unpaid dividends start accruing
interest.
D. All unpaid dividends on preferred stock, regardless of the type of preferred, must be paid
before any income can be distributed to common shareholders.
E. Preferred shareholders may be granted voting rights and seats on the board if preferred
dividend payments remain unpaid.
49. In a liquidation, each share of 5% preferred stock is generally entitled to a liquidation
payment of _____ as long as there are sufficient funds available.
A. $1
B. $5
C. $10
D. $50
E. $100
50. The value of common stock today depends on
A. the expected future holding period and the discount rate.
B. the expected future dividends and the capital gains.
C. the expected future dividends, capital gains and the discount rate.
D. the expected future holding period and capital gains.
E. None of the above.
51. Which one of the following transactions occurs in the primary market?
A. The repurchase of GHI stock from Tim by GHI
B. The tax-free gift of DEF stock to Heather by Jennifer
C. The sale of ABC stock by Fred Jones to Mary Smith
D. The transfer of MNO stock from Tom to his son, Jon
E. The initial sale of JKL stock by JKL to Jamie
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Chapter 06 - Stock Valuation
52. Which one of the following statements concerning dealers and brokers is correct?
A. A dealer in market securities arranges sales between buyers and sellers for a fee.
B. A dealer in market securities pays the asked price when purchasing securities.
C. A broker in market securities earns income in the form of a bid-ask spread.
D. A broker does not take ownership of the securities being traded.
E. A broker deals solely in the primary market.
53. The formula P0 = DIV/r represents
A. the present value of a stream of zero growth dividends in perpetuity.
B. the value of a no growth dividend stream.
C. a lower value than if a positive growth element was included.
D. All of the above.
E. None of the above.
54. The post is a stationary position on the floor of the New York Stock Exchange where a
_____ is assigned to work.
A. floor trader
B. dealer
C. specialist
D. commission broker
E. floor broker
55. The closing price of a stock is quoted at 22.87, with a P/E of 26 and a net change of 1.42.
Based on this information, which one of the following statements is correct?
A. The closing price on the previous day was $1.42 higher than today's closing price.
B. A dealer will buy the stock at $22.87 and sell it at $26 a share.
C. The stock increased in value between yesterday's close and today's close by $.0142.
D. The earnings per share are equal to 1/26th of $22.87.
E. The earnings per share have increased by $1.42 this year.
6-15
Chapter 06 - Stock Valuation
56. A stock listing contains the following information: P/E 17.5, closing price 33.10, dividend
.80, YTD% chg 3.4, and net chg of -.50. Which of the following statements are correct given
this information?
I. The stock price has increased by 3.4% during the current year.
II. The closing price on the previous trading day was $32.60.
III. The earnings per share are approximately $1.89.
IV. The current yield is 17.5%.
A. I and II only
B. I and III only
C. II and III only
D. III and IV only
E. I, III, and IV only
57. The discount rate in equity valuation is composed entirely of:
A. the dividend yield and the growth rate.
B. the dividends paid and the capital gains yield.
C. the dividends paid and the growth rate.
D. the capital gains earned and the dividends paid.
E. the capital gains earned and the growth rate.
58. The net present value of a growth opportunity, NPVGO, can be defined as
A. the initial investment necessary for a new project.
B. the net present value per share of an investment in a new project.
C. a continual reinvestment of earnings when r < g.
D. a single period investment when r > g.
E. None of the above.
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Chapter 06 - Stock Valuation
59. Angelina's made two announcements concerning its common stock today. First, the
company announced that its next annual dividend has been set at $2.20 a share. Secondly, the
company announced that all future dividends will increase by 5% annually. What is the
maximum amount you should pay to purchase a share of Angelina's stock if your goal is to
earn a 10% rate of return?
A. $31.60
B. $32.46
C. $37.44
D. $44.00
E. $46.51
60. How much are you willing to pay for one share of stock if the company just paid an $.80
annual dividend, the dividends increase by 4% annually and you require an 8% rate of return?
A. $19.23
B. $20.00
C. $20.40
D. $20.80
E. $21.63
61. Lee Hong Imports paid a $1.00 per share annual dividend last week. Dividends are
expected to increase by 5% annually. What is one share of this stock worth to you today if the
appropriate discount rate is 14%?
A. $7.14
B. $7.50
C. $11.11
D. $11.67
E. $12.25
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Chapter 06 - Stock Valuation
62. Majestic Homes stock traditionally provides an 8% rate of return. The company just paid a
$2 a year dividend which is expected to increase by 5% per year. If you are planning on
buying 1,000 shares of this stock next year, how much should you expect to pay per share if
the market rate of return for this type of security is 9% at the time of your purchase?
A. $48.60
B. $52.50
C. $55.13
D. $57.89
E. $70.00
63. Leslie's Unique Clothing Stores offers a common stock that pays an annual dividend of
$2.00 a share. The company has promised to maintain a constant dividend. How much are you
willing to pay for one share of this stock if you want to earn 12% return on your equity
investments?
A. $10.00
B. $13.33
C. $16.67
D. $18.88
E. $20.00
64. Martin's Yachts has paid annual dividends of $1.40, $1.75, and $2.10 a share over the past
three years, respectively. The company now predicts that it will maintain a constant dividend
since its business has leveled off and sales are expected to remain relatively constant. Given
the lack of future growth, you will only buy this stock if you can earn at least a 12% rate of
return. What is the maximum amount you are willing to pay to buy one share of this stock
today?
A. $10.00
B. $13.33
C. $16.67
D. $17.50
E. $20.00
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Chapter 06 - Stock Valuation
65. The common stock of Eddie's Engines, Inc. sells for $20.00 a share. The stock is expected
to pay $1.80 per share next month when the annual dividend is distributed. Eddie's has
established a pattern of increasing their dividends by 4% annually and expects to continue
doing so. What is the market rate of return on this stock?
A. 7%
B. 9%
C. 11%
D. 13%
E. 15%
66. The dividend yield on Alpha's common stock is 4.8%. The company just paid a $2.10
dividend. The rumor is that the dividend will be $2.205 next year. The dividend growth rate is
expected to remain constant at the current level. What is the required rate of return on Alpha's
stock?
A. 10.04%
B. 16.07%
C. 21.88%
D. 43.75%
E. 45.94%
67. Martha's Vineyard recently paid a $3.60 annual dividend on its common stock. This
dividend increases at an average rate of 4.5% per year. The stock is currently selling for
$57.88 a share. What is the rate of return on the stock?
A. 6.5%
B. 7.5%
C. 8.5%
D. 9.0%
E. 11.0%
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Chapter 06 - Stock Valuation
68. Bet'R Bilt Bikes just announced that their annual dividend for this coming year will be
$1.42 a share and that all future dividends are expected to increase by 2.5% annually. What is
the market rate of return if this stock is currently selling for $14.20 a share?
A. 9.5%
B. 10.0%
C. 12.5%
D. 13.5%
E. 15.0%
69. Shares of common stock of the Samson Co. offer an expected total return of 12%. The
dividend is increasing at a constant 8% per year. The dividend yield must be:
A. - 4%.
B. 4%.
C. 8%.
D. 12%.
E. 20%.
70. The common stock of Grady Co. had an 11.25% rate of return last year. The dividend
amount was $.70 a share which equated to a dividend yield of 1.5%. What was the rate of
price appreciation on the stock?
A. 1.50%
B. 8.00%
C. 9.75%
D. 11.25%
E. 12.75%
71. Weisbro and Sons common stock sells for $21 a share and pays an annual dividend that
increases by 5% annually. The market rate of return on this stock is 9%. What is the amount
of the last dividend paid by Weisbro and Sons?
A. $.77
B. $.80
C. $.84
D. $.87
E. $.88
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Chapter 06 - Stock Valuation
72. The common stock of Energizer's pays an annual dividend that is expected to increase by
10% annually. The stock commands a market rate of return of 12% and sells for $55.00 a
share. What is the expected amount of the next dividend to be paid on Energizer's common
stock?
A. $.90
B. $1.00
C. $1.10
D. $1.21
E. $1.33
73. The Reading Co. has adopted a policy of increasing the annual dividend on their common
stock at a constant rate of 3.5% annually. The last dividend they paid was $0.95 a share. What
will the company's dividend be in five years?
A. $.90
B. $.93
C. $1.03
D. $1.13
E. $1.23
74. A stock pays a constant annual dividend and sells for $31.11 a share. If the dividend yield
on this stock is 9%, what is the dividend amount?
A. $1.40
B. $1.80
C. $2.20
D. $2.40
E. $2.80
75. You have decided that you would like to own some shares of GH Corp. but need an
expected 12.5% rate of return to compensate for the perceived risk of such ownership. What is
the maximum you are willing to spend per share to buy GH stock if the company pays a
constant $3.40 annual dividend per share?
A. $26.04
B. $26.87
C. $27.20
D. $28.29
E. $29.59
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Chapter 06 - Stock Valuation
76. Turnips and Parsley common stock sells for $31.65 a share at a market rate of return of
9.5%. The company just paid their annual dividend of $1.20. What is the rate of growth of
their dividend?
A. 5.2%
B. 5.5%
C. 5.9%
D. 6.0%
E. 6.3%
77. B&K Enterprises will pay an annual dividend of $2.10 a share on its common stock next
year. Last week, the company paid a dividend of $2.00 a share. The company adheres to a
constant rate of growth dividend policy. What will one share of B&K common stock be worth
ten years from now if the applicable discount rate is 9%?
A. $71.16
B. $74.01
C. $76.97
D. $80.05
E. $85.52
78. Wilbert's Clothing Stores just paid a $1.25 annual dividend. The company has a policy
whereby the dividend increases by 2% annually. You would like to purchase 100 shares of
stock in this firm but realize that you will not have the funds to do so for another three years.
If you desire a 12% rate of return, how much should you expect to pay for 100 shares when
you can afford to buy this stock? Ignore trading costs.
A. $1,040
B. $1,160
C. $1,353
D. $1,766
E. $1,810
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Chapter 06 - Stock Valuation
79. The Merriweather Co. just announced that it is paying a dividend next year of $1.60 and is
establishing a policy whereby the dividend will increase by 3.5% annually thereafter. How
much will one share of this stock be worth five years from now if the required return is 12%?
A. $21.60
B. $22.36
C. $23.14
D. $23.95
E. $24.79
80. Shares of the Katydid Co. common stock are currently selling for $33.60. The last
dividend paid was $1.60 per share. The market rate of return is 10%. At what rate is the
dividend growing?
A. 3.50%
B. 4.60%
C. 5.00%
D. 6.05%
E. 6.91%
81. The Bell Weather Co. is a new firm in a rapidly growing industry. The company is
planning on increasing its annual dividend by 20% a year for the next four years and then
decreasing the growth rate to 5% per year. The company just paid its annual dividend in the
amount of $1.00 per share. What is the current value of one share of this stock if the required
rate of return is 10.25%?
A. $33.04
B. $38.19
C. $41.05
D. $43.19
E. $45.81
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Chapter 06 - Stock Valuation
82. The Extreme Reaches Corp. last paid a $1.50 per share annual dividend. The company is
planning on paying $3.00, $5.00, $7.50, and $10.00 a share over the next four years,
respectively. After that the dividend will be a constant $2.50 per share per year. What is the
market price of this stock if the market rate of return is 14%?
A. $17.04
B. $22.39
C. $26.57
D. $28.03
E. $33.71
83. Can't Hold Me Back, Inc. is preparing to pay its first dividends. It is going to pay $1.00,
$2.50, and $5.00 a share over the next three years, respectively. After that, the company has
stated that the annual dividend will be $1.25 per share indefinitely. What is this stock worth to
you per share if you demand a 6% rate of return?
A. $7.20
B. $14.48
C. $18.88
D. $24.85
E. $31.61
84. NU YU announced today that it will begin paying annual dividends. The first dividend
will be paid next year in the amount of $.25 a share. The following dividends will be $.40,
$.60, and $.75 a share annually for the following three years, respectively. After that,
dividends are projected to increase by 3.5% per year. How much are you willing to pay to buy
one share of this stock if your desired rate of return is 12%?
A. $1.45
B. $5.80
C. $7.25
D. $9.06
E. $10.58
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Chapter 06 - Stock Valuation
85. Now or Later, Inc. recently paid $1.10 as an annual dividend. Future dividends are
projected at $1.14, $1.18, $1.22, and $1.25 over the next four years, respectively. After that,
the dividend is expected to increase by 2% annually. What is one share of this stock worth to
you if you require an 8% rate of return on similar investments?
A. $15.62
B. $19.57
C. $21.21
D. $23.33
E. $25.98
86. The Red Bud Co. just paid a dividend of $1.20 a share. The company announced today
that it will continue to pay this constant dividend for the next three years after which time it
will discontinue paying dividends permanently. What is one share of this stock worth today if
the required rate of return is 8%?
A. $3.09
B. $3.15
C. $3.23
D. $3.44
E. $3.60
87. Bill Bailey and Sons pays no dividend at the present time. The company plans to start
paying an annual dividend in the amount of $.30 a share for two years commencing two years
from today. After that time, the company plans on paying a constant $1 a share dividend
indefinitely. How much are you willing to pay to buy a share of this stock if your required
return is 15%?
A. $4.42
B. $4.81
C. $5.19
D. $5.36
E. $5.58
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Chapter 06 - Stock Valuation
88. The Lighthouse Co. is in a downsizing mode. The company paid a $2.50 annual dividend
last year. The company has announced plans to lower the dividend by $.50 a year. Once the
dividend amount becomes zero, the company will cease all dividends permanently. You place
a required rate of return of 16% on this particular stock given the company's situation. What is
one share of this stock worth to you today?
A. $3.76
B. $4.08
C. $4.87
D. $5.13
E. $5.39
89. Mother and Daughter Enterprises is a relatively new firm that appears to be on the road to
great success. The company paid its first annual dividend yesterday in the amount of $.28 a
share. The company plans to double each annual dividend payment for the next three years.
After that time, it is planning on paying a constant $1.50 per share indefinitely. What is one
share of this stock worth today if the market rate of return on similar securities is 11.5%?
A. $9.41
B. $11.40
C. $11.46
D. $11.93
E. $12.43
90. BC n D just paid its annual dividend of $.60 a share. The projected dividends for the next
five years are $.30, $.50, $.75, $1.00, and $1.20, respectively. After that time, the dividends
will be held constant at $1.40. What is this stock worth today at a 6% discount rate?
A. $20.48
B. $20.60
C. $21.02
D. $21.28
E. $21.43
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Chapter 06 - Stock Valuation
91. Beaksley, Inc. is a very cyclical type of business that is reflected in its dividend policy.
The firm pays a $2.00 a share dividend every other year. The last dividend was paid last year.
Five years from now, the company is repurchasing all of the outstanding shares at a price of
$55 a share. At an 9% rate of return, what is this stock worth today?
A. $34.03
B. $37.21
C. $38.85
D. $44.09
E. $51.18
92. Last week, Railway Cabooses paid their annual dividend of $1.20 per share. The company
has been reducing the dividends by 5% each year. How much are you willing to pay to
purchase stock in this company if your required rate of return is 14%?
A. $4.50
B. $6.00
C. $10.80
D. $12.67
E. $27.00
93. Nu-Tek, Inc. is expecting a period of intense growth, so it has decided to retain more of its
earnings to help finance that growth. As a result it is going to reduce its annual dividend by
10% a year for the next three years. After that it will maintain a constant dividend of $.70 a
share. Last year, the company paid $1.80 per share. What is the market value of this stock if
the required rate of return is 13%?
A. $6.79
B. $7.22
C. $8.22
D. $8.87
E. $9.01
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Chapter 06 - Stock Valuation
94. The Double Dip Co. is expecting its ice cream sales to decline due to the increased interest
in healthy eating. Thus, the company has announced that it will be reducing its annual
dividend by 5% a year for the next two years. After that, Double Dip will maintain a constant
dividend of $1 a share. Last year, the company paid $1.40 per share. What is this stock worth
to you if you require a 9% rate of return?
A. $10.86
B. $11.11
C. $11.64
D. $12.98
E. $14.23
95. Butterup's N More wants to offer some preferred stock that pays an annual dividend of
$2.00 a share forever. The company has determined that stocks with similar characteristics
provide a 10% rate of return. What price should Butterup's expect to receive per share for this
stock offering?
A. $18.35
B. $20.00
C. $21.80
D. $22.22
E. $24.22
96. The preferred stock of North Coast Shoreline pays an annual dividend of $1.60 and sells
for $20.65 a share. What is the dividend yield on this security?
A. 5.95%
B. 7.75%
C. 8.40%
D. 11.90%
E. 14.17%
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Chapter 06 - Stock Valuation
97. Jim owns shares of Abco, Inc. preferred stock which he says provides him with a constant
6.58% rate of return. The stock is currently priced at $45.60 a share. What is the amount of
the dividend per share?
A. $3.00
B. $3.15
C. $3.50
D. $3.54
E. $3.62
98. You want to earn a 12% rate of return. Panco, Inc. preferred stock pays a $4.50 annual
dividend. What is the maximum price you are willing to pay for one share of this stock?
A. $32.50
B. $37.50
C. $39.00
D. $40.50
E. $45.00
99. Which of the following amounts is closest to what should be paid for Overland common
stock? Overland has just paid a dividend of $2.25. These dividends are expected to grow at a
rate of 5% in the foreseeable future. The risk of this company suggests that future cash flows
should be discounted at a rate of 11%.
A. $20.45
B. $21.48
C. $37.50
D. $39.38
E. $47.70
100. What would be the maximum an investor should pay for the common stock of a firm that
has no growth opportunities but pays a dividend of $1.85 per year? The next dividend will be
paid in exactly 1 year. The required rate of return is 14.5%.
A. $9.52
B. $10.88
C. $12.76
D. $17.00
E. None of the above.
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Chapter 06 - Stock Valuation
101. Mortgage Instruments Inc. is expected to pay dividends of $1.04 next year. The company
just paid dividends of $1. This growth rate is expected to continue. How much should be paid
for Mortgage Instruments stock just after the dividend if the appropriate discount rate is 6%?
A. $20.00
B. $21.50
C. $34.75
D. $51.25
E. $52.00
102. The Felix Corp. projects to pay a dividend of $.75 next year and then have it grow at
12% for the following three years before growing at 8% indefinitely thereafter. The equity has
a required return of 10% in the market. The price of the stock should be ___.
A. $9.375
B. $17.05
C. $41.39
D. $59.80
E. $62.38
103. If a company paid a dividend of $0.50 last year and it is expected to grow at 7% for the
next 8 years and then grow at 5% thereafter, the dividend expected in year 8 is __.
A. $0.73
B. $0.75
C. $0.78
D. $0.79
E. $0.86
104. The Lory Company had net earnings of $127,000 this past year. Dividends of $38,100
were paid on the company's equity of $1,587,500. If Lory has 100,000 shares outstanding
with a current market price of $11.625 per share, and the growth rate was 5.6% what is the
required rate of return?
A. 4.2%
B. 6%
C. 9%
D. 14%
E. None of the above.
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Chapter 06 - Stock Valuation
105. Doctors-On-Call, a newly formed medical group, just paid a dividend of $.50. The
company's dividends are expected to grow at a 20% rate for the next 5 years and at a 3% rate
thereafter. What is the value of the stock if the appropriate discount rate is 12%?
A. $8.08
B. $11.17
C. $14.22
D. $17.32
E. $30.90
106. A stock you are interested in paid a dividend of $1 last year. The anticipated growth rate
in dividends and earnings is 20% for the next year and 10% the year after that before settling
down to a constant 5% growth rate. The discount rate is 12%. Calculate the expected price of
the stock.
A. $17.20
B. $17.90
C. $18.20
D. $19.40
E. $19.75
107. A stock you are interested in paid a dividend of $1 last year. The anticipated growth rate
in dividends and earnings is 25% for the next 2 years before settling down to a constant 5%
growth rate. The discount rate is 12%. Calculate the expected price of the stock.
A. $15.38
B. $20.50
C. $21.04
D. $22.27
E. $26.14
108. Which of the following values is closest to the amount that should be paid for a stock
that will pay a dividend of $10 in one year and $11 in two years? The stock will be sold in 2
years for an estimated price of $120. The appropriate discount rate is 8%.
A. $114.60
B. $119.40
C. $124.20
D. $121.57
E. $138.75
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Chapter 06 - Stock Valuation
109. You want to earn a 12% rate of return. Panco, Inc. preferred stock pays a $6.75 annual
dividend. What is the maximum price you are willing to pay for one share of this stock?
A. $6.75
B. $52.54
C. $55.00
D. $56.25
E. $58.21
110. Which of the following amounts is closest to what should be paid for Ryan common
stock? Ryan has just paid a dividend of $1.75. These dividends are expected to grow at a rate
of 5% in the foreseeable future. The risk of this company suggests that future cash flows
should be discounted at a rate of 12%.
A. $18.75
B. $19.50
C. $22.50
D. $26.25
E. None of the above.
111. What would be the maximum an investor should pay for the common stock of a firm that
has no growth opportunities but pays a dividend of $2.50 per year? The next dividend will be
paid in exactly 1 year. The required rate of return is 11%.
A. $19.52
B. $21.50
C. $22.73
D. $25.22
E. None of the above.
112. Ramchander Investment Group is expected to pay dividends of $1.40 next year. The
company just paid dividends of $1.30. This growth rate is expected to continue. How much
should be paid for Ramchander Investment Group stock just after the dividend if the
appropriate discount rate is 10%?
A. $14.00
B. $35.85
C. $58.90
D. $60.61
E. $65.27
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Chapter 06 - Stock Valuation
Essay Questions
113. List the four types of New York Stock Exchange members and give a brief definition of
what each member does.
114. What are the primary differences between NASDAQ and the NYSE?
115. What are the components of the required rate of return on a share of stock? Briefly
explain each component.
116. Briefly explain the differences between preferred and common stock.
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Chapter 06 - Stock Valuation
117. Explain whether it is easier to find the required return on a publicly traded stock or a
publicly traded bond, and explain why.
118. A number of publicly traded firms pay no dividends yet investors are willing to buy
shares in these firms. How is this possible? Does this violate our basic principle of stock
valuation? Explain.
119. A firm has two classes of common stock outstanding: Class A, which carries voting
rights of 10 votes per share but receives no dividends (ever), and Class B, which carries
voting rights of 1 vote per share and pays dividends whenever they are declared by the board.
Which would you be willing to pay more for and why?
120. Are most stocks constant growth or differential growth? Why?
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Chapter 06 - Stock Valuation
Chapter 06 Stock Valuation Answer Key
Multiple Choice Questions
1. An asset characterized by cash flows that increase at a constant rate forever is called a:
A. preferred stock.
B. growing annuity.
C. common annuity.
D. perpetuity due.
E. growing perpetuity.
Difficulty level: Easy
Topic: Growing Perpetuity
2. The stock valuation model that determines the current stock price by dividing the next
annual dividend amount by the excess of the discount rate less the dividend growth rate is
called the _____ model.
A. zero growth
B. dividend growth
C. capital pricing
D. earnings capitalization
E. differential growth
Difficulty level: Easy
Topic: Dividend Growth Model
3. Next year's annual dividend divided by the current stock price is called the:
A. yield to maturity.
B. total yield.
C. dividend yield.
D. capital gains yield.
E. earnings yield.
Difficulty level: Easy
Topic: Dividend Yield
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Chapter 06 - Stock Valuation
4. The rate at which a stock's price is expected to appreciate (or depreciate) is called the
_____ yield.
A. current
B. total
C. dividend
D. capital gains
E. earnings
Difficulty level: Easy
Topic: Capital Gains Yield
5. A form of equity which receives preferential treatment in the payment of dividends is
called _____ stock.
A. preferred
B. cumulative
C. common
D. dual class
E. deferred
Difficulty level: Easy
Topic: Preferred Stock
6. A _____ is a form of equity security that has a stated liquidating value.
A. debenture
B. bond
C. preferred stock
D. common stock
E. proxy
Difficulty level: Medium
Topic: Preferred Stock
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Chapter 06 - Stock Valuation
7. A form of equity which receives no preferential treatment in either the payment of
dividends or in bankruptcy distributions is called _____ stock.
A. preferred
B. common
C. deferred
D. dual class
E. cumulative
Difficulty level: Easy
Topic: Common Stock
8. The voting procedure whereby shareholders may cast all of their votes for one member of
the board is called _____ voting.
A. democratic
B. cumulative
C. straight
D. deferred
E. proxy
Difficulty level: Easy
Topic: Cumulative Voting
9. The voting procedure where you must own 50% plus one of the outstanding shares of stock
to guarantee that you will win a seat on the board of directors is called _____ voting.
A. proxy
B. cumulative
C. deferred
D. straight
E. democratic
Difficulty level: Easy
Topic: Straight Voting
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Chapter 06 - Stock Valuation
10. The voting procedure where a shareholder grants authority to another individual to vote
his/her shares is called _____ voting.
A. proxy
B. deferred
C. straight
D. cumulative
E. democratic
Difficulty level: Easy
Topic: Proxy Voting
11. Preemptive rights refer to the right of shareholders to:
A. share proportionately in dividends paid.
B. override the votes of other shareholders.
C. vote at annual shareholder meetings.
D. share proportionately in liquidated assets.
E. share proportionately in any new stock issues sold.
Difficulty level: Medium
Topic: Preemptive Rights
12. Payments made by a corporation to its shareholders, in the form of either cash, stock or
payments in kind, are called:
A. retained earnings.
B. net income.
C. dividends.
D. redistributions.
E. infused equity.
Difficulty level: Easy
Topic: Dividends
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Chapter 06 - Stock Valuation
13. The market in which new securities are originally sold to investors is called the _____
market.
A. dealer
B. auction
C. over-the-counter
D. secondary
E. primary
Difficulty level: Easy
Topic: Primary Market
14. The market in which previously issued securities are traded among investors is called the
_____ market.
A. primary
B. auction
C. secondary
D. over-the-counter
E. dealer
Difficulty level: Easy
Topic: Secondary Market
15. An agent who buys and sells securities from inventory is called a:
A. broker.
B. dealer.
C. principal.
D. capitalist.
E. trader.
Difficulty level: Easy
Topic: Dealer
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Chapter 06 - Stock Valuation
16. An agent who arranges security transactions among investors without maintaining an
inventory is called a:
A. broker.
B. trader.
C. capitalist.
D. principal.
E. dealer.
Difficulty level: Easy
Topic: Broker
17. The owner of a seat on the New York Stock Exchange is called a(n) _____ of the
exchange.
A. member
B. friend
C. dealer
D. trustee
E. agent
Difficulty level: Easy
Topic: Nyse Member
18. A member of the New York Stock Exchange acting as a dealer in one or more securities
on the exchange floor is called a:
A. floor trader.
B. floor post.
C. specialist.
D. floor broker.
E. commission broker.
Difficulty level: Easy
Topic: Specialist
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Chapter 06 - Stock Valuation
19. A member of the New York Stock Exchange who executes orders for commission brokers
on a fee basis is a:
A. floor trader.
B. dealer.
C. specialist.
D. floor broker.
E. floor agent.
Difficulty level: Easy
Topic: Floor Broker
20. A member of the New York Stock Exchange who executes buy and sell orders directly
from customers once transmitted to the exchange floor is called a:
A. dealer.
B. floor trader.
C. commission broker.
D. floor broker.
E. specialist
Difficulty level: Easy
Topic: Commission Broker
21. A member of the New York Stock Exchange who trades for his or her own account, trying
to anticipate temporary price fluctuations, is called a(n):
A. specialist.
B. floor broker.
C. floor trader.
D. exchange customer.
E. commission broker.
Difficulty level: Easy
Topic: Floor Trader
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Chapter 06 - Stock Valuation
22. The electronic system used by the New York Stock Exchange which enables orders to be
transmitted directly to a specialist is called the ______ system.
A. Instinet
B. Internet
C. NASDAQ
D. SuperDOT
E. brokerage
Difficulty level: Easy
Topic: Superdot System
23. The ________ has a multiple market maker system rather than a specialist system.
A. NASDAQ
B. NIKKEI
C. NYSE
D. AMEX
E. None of the above.
Difficulty level: Easy
Topic: Order Flow
24. A securities market primarily comprised of dealers who buy and sell for their own
inventories is generally referred to as a(n) ______ market.
A. private
B. auction
C. electronic network
D. regional
E. over-the-counter
Difficulty level: Easy
Topic: Over-The-Counter Market
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Chapter 06 - Stock Valuation
25. Electronic communications networks, or ECNs, act to:
A. increase the cost to invest.
B. increase competition.
C. increase liquidity.
D. A & B.
E. B & C.
Difficulty Medium
Topic: level: ECNS
26. The James River Co. pays an annual dividend of $1.50 per share on its common stock.
This dividend amount has been constant for the past 15 years and is expected to remain
constant. Given this, one share of James River Co. stock:
A. is basically worthless as it offers no growth potential.
B. is valued with an assumed growth rate of 3%.
C. has a market value of $15.00.
D. has a market value equal to the present value of $1.50 paid one year from today.
E. is valued as if the dividend paid is a perpetuity.
Difficulty level: Easy
Topic: Valuation of Zero Growth Stock
27. The common stock of the Kenwith Co. pays a constant annual dividend. Thus, the market
price of Kenwith stock will:
A. decrease when the market rate of return increases.
B. increase when the market rate of return increases.
C. decrease over time.
D. increase over time.
E. always remain constant.
Difficulty level: Easy
Topic: Valuation of Zero Growth Stock
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Chapter 06 - Stock Valuation
28. The Koster Co. currently pays an annual dividend of $1.00 and plans on increasing that
amount by 5% each year. The Keyser Co. currently pays an annual dividend of $1.00 and
plans on increasing its dividend by 3% annually. Given this, it can be stated with certainty
that the _____ of the Koster Co. stock is greater than the _____ of the Keyser Co. stock.
A. market price; market price
B. total return; total return
C. dividend yield; dividend yield
D. capital gains; dividend yield
E. None of the above.
Difficulty level: Medium
Topic: Dividend Growth Model
29. The constant dividend growth model:
I. assumes that dividends increase at a constant rate forever.
II. can be used to compute a stock price at any point in time.
III. states that the market price of a stock is only affected by the amount of the dividend.
IV. considers capital gains but ignores the dividend yield.
A. I only
B. II only
C. III and IV only
D. I and II only
E. I, II, and III only
Difficulty level: Medium
Topic: Dividend yield vs. Capital gains yield
30. The underlying assumption of the dividend growth model is that a stock is worth:
A. the present value of the future income that the stock generates.
B. the same amount to every investor regardless of his desired rate of return.
C. an amount computed as the next annual dividend divided by the market rate of return.
D. an amount computed as the next annual dividend divided by the required rate of return.
E. the same amount as any other stock that pays the same current dividend and has the same
required rate of return.
Difficulty level: Medium
Topic: Dividend Growth Model
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Chapter 06 - Stock Valuation
31. Assume that you are using the dividend growth model to value stocks. If you expect the
market rate of return to increase across the board on all equity securities, then you should also
expect the:
A. market values of all stocks to increase, all else constant.
B. market values of all stocks to remain constant as the dividend growth will offset the
increase in the market rate.
C. dividend growth rates to increase to offset this change.
D. stocks that do not pay dividends to decrease in price while the dividend-paying stocks
maintain a constant price.
E. market values of all stocks to decrease, all else constant.
Difficulty level: Medium
Topic: Dividend Growth Model
32. Latcher's Inc. is a relatively new firm that is still in a period of rapid development. The
company plans on retaining all of its earnings for the next six years. Seven years from now,
the company projects paying an annual dividend of $.25 a share and then increasing that
amount by 3% annually thereafter. To value this stock as of today, you would most likely
determine the value of the stock _____ years from today before determining today's value.
A. 4
B. 5
C. 6
D. 7
E. 8
Difficulty level: Medium
Topic: Differential Growth
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Chapter 06 - Stock Valuation
33. The Robert Phillips Co. currently pays no dividend. The company is anticipating
dividends of $0, $0, $0, $.10, $.20, and $.30 over the next 6 years, respectively. After that, the
company anticipates increasing the dividend by 4% annually. The first step in computing the
value of this stock today, is to compute the value of the stock when it reaches constant growth
in year:
A. 3
B. 4
C. 5
D. 6
E. 7
Difficulty level: Medium
Topic: Differential Growth
34. Differential growth refers to a firm that increases its dividend by:
A. three or more percent per year.
B. $.10 or more per year.
C. a constant rate of two or more percent per year.
D. an amount in excess of $.15 year.
E. a rate which is most likely not sustainable over an extended period of time.
Difficulty level: Medium
Topic: Differential Growth
35. The total rate of return earned on a stock is composed of which two of the following?
I. current yield
II. yield to maturity
III. dividend yield
IV. capital gains yield
A. I and II only
B. I and IV only
C. II and III only
D. II and IV only
E. III and IV only
Difficulty level: Medium
Topic: Dividend Yield and Capital Gains
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Chapter 06 - Stock Valuation
36. The total rate of return on a stock can be positive even when the price of the stock
depreciates because of the:
A. capital appreciation.
B. real rate of return.
C. interest yield.
D. supernormal growth.
E. dividend yield.
Difficulty level: Medium
Topic: Dividend Yield
37. Fred Flintlock wants to earn a total of 10% on his investments. He recently purchased
shares of ABC stock at a price of $20 a share. The stock pays a $1 a year dividend. The price
of ABC stock needs to _____ if Fred is to achieve his 10% rate of return.
A. remain constant
B. decrease by 5%
C. increase by 5%
D. increase by 10%
E. increase by 15%
Difficulty level: Medium
Topic: Dividend Yield and Capital Gains
38. Which one of the following correctly defines the constant dividend growth model?
A. R = (D1 P0) + g
B. P0 = (D1 R) + g
C. R = (P0 D0) + g
D. P0 = D0 (R-g)
E. D0 = P0 (R-g)
Difficulty level: Medium
Topic: Dividend Growth Model
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Chapter 06 - Stock Valuation
39. Shareholders generally have the right to:
I. elect the corporate directors.
II. select the senior management of the firm.
III. elect the chief executive officer (CEO).
IV. elect the chief operating officer (COO).
A. I only
B. I and III only
C. II only
D. I and II only
E. III and IV only
Difficulty level: Medium
Topic: Shareholder Rights
40. Jack owns 35 shares of stock in Beta, Inc. and wants to exercise as much control as
possible over the company. Beta, Inc. has a total of 100 shares of stock outstanding. Each
share receives one vote. Presently, the company is voting to elect two new directors. Which
one of the following statements must be true given this information?
A. If straight voting applies, Jack is assured one seat on the board.
B. If straight voting applies, Jack can control both open seats.
C. If cumulative voting applies, Jack is assured one seat on the board.
D. If cumulative voting applies, Jack can control both open seats.
E. Regardless of the type of voting employed, Jack does not own enough shares to control any
of the seats.
Difficulty level: Medium
Topic: Cumulative Voting
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Chapter 06 - Stock Valuation
41. ABC Co. is owned by a group of shareholders who all vote independently and who all
want personal control over the firm. If straight voting is utilized, a shareholder:
A. must either own enough shares to totally control the elections or else he/she has no control
whatsoever.
B. will be able to elect at least one director as long as there are at least three open positions
and the shareholder owns at least 25% plus one of the outstanding shares.
C. must own at least two-thirds of the shares, plus one, to exercise control over the elections.
D. is only permitted to elect one director, regardless of the number of shares owned.
E. who owns more shares than anyone else, regardless of the percentage of outstanding shares
owned, will control the elections.
Difficulty level: Medium
Topic: Straight Voting
42. The Zilo Corp. has 1,000 shareholders and is preparing to elect three new board members.
You do not own enough shares to control the elections but are determined to oust the current
leadership. The most likely result of this situation is a:
A. negotiated settlement where you are granted control over one of the three open positions.
B. legal battle for control of the firm based on your discontent as an individual shareholder.
C. arbitrated settlement whereby you are granted control over one of the three open positions.
D. total loss of power for you since you are a minority shareholder.
E. proxy fight for control of the firm.
Difficulty level: Medium
Topic: Proxy Voting
6-49
Chapter 06 - Stock Valuation
43. Common stock shareholders are generally granted rights which include the right to:
I. share in company profits.
II. vote for company directors.
III. vote on proposed mergers.
IV. residual assets in a liquidation.
A. I and II only
B. II and III only
C. I and IV only
D. I, II, and IV only
E. I, II, III, and IV
Difficulty level: Medium
Topic: Shareholder Rights
44. The Scott Co. has a general dividend policy whereby it pays a constant annual dividend of
$1 per share of common stock. The firm has 1,000 shares of stock outstanding. The company:
A. must always show a current liability of $1,000 for dividends payable.
B. is obligated to continue paying $1 per share per year.
C. must still declare each dividend before it becomes an actual company liability.
D. has a liability which must be paid at a later date should the company miss paying an annual
dividend payment.
E. will be declared in default and can face bankruptcy if it does not pay $1 per year to each
shareholder on a timely basis.
Difficulty level: Medium
Topic: Dividends
6-50
Chapter 06 - Stock Valuation
45. The dividends paid by a corporation:
I. to an individual become taxable income of that individual.
II. reduce the taxable income of the corporation.
III. are declared by the chief financial officer of the corporation.
IV. to another corporation may or may not represent taxable income to the recipient.
A. I only
B. I and IV only
C. II and III only
D. I, II, and IV only
E. I, III, and IV only
Difficulty level: Medium
Topic: Dividends
46. The owner of preferred stock:
A. has the right to declare the company bankrupt whenever there are insufficient funds to pay
dividends to the common shareholders.
B. has the right to veto the outcome of an election held by the common shareholders.
C. is entitled to a distribution of income prior to the common shareholders.
D. has the right to collect payment on any unpaid dividends as long as the stock is noncumulative preferred.
E. receives tax-free dividends if he is an individual and owns more than 20% of the
outstanding preferred shares.
Difficulty level: Medium
Topic: Preferred Stock
47. A 8% preferred stock priced at $100 per share should pay _____ a year in dividends per
share.
A. $3
B. $6
C. $8
D. $30
E. $60
Difficulty level: Easy
Topic: Preferred Stock
6-51
Chapter 06 - Stock Valuation
48. Which one of the following statements concerning preferred stock is correct?
A. Unpaid preferred dividends are a liability of the firm.
B. Preferred dividends must be paid quarterly provided the firm has net income that exceeds
the amount of the quarterly dividend.
C. Preferred dividends must be paid timely each quarter or the unpaid dividends start accruing
interest.
D. All unpaid dividends on preferred stock, regardless of the type of preferred, must be paid
before any income can be distributed to common shareholders.
E. Preferred shareholders may be granted voting rights and seats on the board if preferred
dividend payments remain unpaid.
Difficulty level: Medium
Topic: Preferred Stock
49. In a liquidation, each share of 5% preferred stock is generally entitled to a liquidation
payment of _____ as long as there are sufficient funds available.
A. $1
B. $5
C. $10
D. $50
E. $100
Difficulty level: Medium
Topic: Preferred Stock
50. The value of common stock today depends on
A. the expected future holding period and the discount rate.
B. the expected future dividends and the capital gains.
C. the expected future dividends, capital gains and the discount rate.
D. the expected future holding period and capital gains.
E. None of the above.
Difficulty level: Medium
Topic: Common Stock Values
6-52
Chapter 06 - Stock Valuation
51. Which one of the following transactions occurs in the primary market?
A. The repurchase of GHI stock from Tim by GHI
B. The tax-free gift of DEF stock to Heather by Jennifer
C. The sale of ABC stock by Fred Jones to Mary Smith
D. The transfer of MNO stock from Tom to his son, Jon
E. The initial sale of JKL stock by JKL to Jamie
Difficulty level: Medium
Topic: Primary Market
52. Which one of the following statements concerning dealers and brokers is correct?
A. A dealer in market securities arranges sales between buyers and sellers for a fee.
B. A dealer in market securities pays the asked price when purchasing securities.
C. A broker in market securities earns income in the form of a bid-ask spread.
D. A broker does not take ownership of the securities being traded.
E. A broker deals solely in the primary market.
Difficulty level: Easy
Topic: Dealers and Brokers
53. The formula P0 = DIV/r represents
A. the present value of a stream of zero growth dividends in perpetuity.
B. the value of a no growth dividend stream.
C. a lower value than if a positive growth element was included.
D. All of the above.
E. None of the above.
Difficulty level: Easy
Topic: Perpetuity Formula
6-53
Chapter 06 - Stock Valuation
54. The post is a stationary position on the floor of the New York Stock Exchange where a
_____ is assigned to work.
A. floor trader
B. dealer
C. specialist
D. commission broker
E. floor broker
Difficulty level: Medium
Topic: Specialist's Post
55. The closing price of a stock is quoted at 22.87, with a P/E of 26 and a net change of 1.42.
Based on this information, which one of the following statements is correct?
A. The closing price on the previous day was $1.42 higher than today's closing price.
B. A dealer will buy the stock at $22.87 and sell it at $26 a share.
C. The stock increased in value between yesterday's close and today's close by $.0142.
D. The earnings per share are equal to 1/26th of $22.87.
E. The earnings per share have increased by $1.42 this year.
Difficulty level: Medium
Topic: Stock Market Reporting
56. A stock listing contains the following information: P/E 17.5, closing price 33.10, dividend
.80, YTD% chg 3.4, and net chg of -.50. Which of the following statements are correct given
this information?
I. The stock price has increased by 3.4% during the current year.
II. The closing price on the previous trading day was $32.60.
III. The earnings per share are approximately $1.89.
IV. The current yield is 17.5%.
A. I and II only
B. I and III only
C. II and III only
D. III and IV only
E. I, III, and IV only
Difficulty level: Medium
Topic: Stock Quote
6-54
Chapter 06 - Stock Valuation
57. The discount rate in equity valuation is composed entirely of:
A. the dividend yield and the growth rate.
B. the dividends paid and the capital gains yield.
C. the dividends paid and the growth rate.
D. the capital gains earned and the dividends paid.
E. the capital gains earned and the growth rate.
Difficulty level: Medium
Topic: Discount Rate
58. The net present value of a growth opportunity, NPVGO, can be defined as
A. the initial investment necessary for a new project.
B. the net present value per share of an investment in a new project.
C. a continual reinvestment of earnings when r < g.
D. a single period investment when r > g.
E. None of the above.
Difficulty level: Medium
Topic: NPVGO
59. Angelina's made two announcements concerning its common stock today. First, the
company announced that its next annual dividend has been set at $2.20 a share. Secondly, the
company announced that all future dividends will increase by 5% annually. What is the
maximum amount you should pay to purchase a share of Angelina's stock if your goal is to
earn a 10% rate of return?
A. $31.60
B. $32.46
C. $37.44
D. $44.00
E. $46.51
; P0 = $44.00
Difficulty level: Easy
Topic: Stock Value - Constant Growth
6-55
Chapter 06 - Stock Valuation
60. How much are you willing to pay for one share of stock if the company just paid an $.80
annual dividend, the dividends increase by 4% annually and you require an 8% rate of return?
A. $19.23
B. $20.00
C. $20.40
D. $20.80
E. $21.63
; P0 = $20.80
Difficulty level: Easy
Topic: Stock Value - Constant Growth
61. Lee Hong Imports paid a $1.00 per share annual dividend last week. Dividends are
expected to increase by 5% annually. What is one share of this stock worth to you today if the
appropriate discount rate is 14%?
A. $7.14
B. $7.50
C. $11.11
D. $11.67
E. $12.25
; P0 = $11.67
Difficulty level: Easy
Topic: Stock Value - Constant Growth
6-56
Chapter 06 - Stock Valuation
62. Majestic Homes stock traditionally provides an 8% rate of return. The company just paid a
$2 a year dividend which is expected to increase by 5% per year. If you are planning on
buying 1,000 shares of this stock next year, how much should you expect to pay per share if
the market rate of return for this type of security is 9% at the time of your purchase?
A. $48.60
B. $52.50
C. $55.13
D. $57.89
E. $70.00
; P1 = $55.13
Difficulty level: Easy
Topic: Stock Value - Constant Growth
63. Leslie's Unique Clothing Stores offers a common stock that pays an annual dividend of
$2.00 a share. The company has promised to maintain a constant dividend. How much are you
willing to pay for one share of this stock if you want to earn 12% return on your equity
investments?
A. $10.00
B. $13.33
C. $16.67
D. $18.88
E. $20.00
; P0 = $16.67
Difficulty level: Easy
Topic: Stock Value - Constant Growth
6-57
Chapter 06 - Stock Valuation
64. Martin's Yachts has paid annual dividends of $1.40, $1.75, and $2.10 a share over the past
three years, respectively. The company now predicts that it will maintain a constant dividend
since its business has leveled off and sales are expected to remain relatively constant. Given
the lack of future growth, you will only buy this stock if you can earn at least a 12% rate of
return. What is the maximum amount you are willing to pay to buy one share of this stock
today?
A. $10.00
B. $13.33
C. $16.67
D. $17.50
E. $20.00
; P0 = $17.50
Difficulty level: Medium
Topic: Stock Value - Zero Growth
65. The common stock of Eddie's Engines, Inc. sells for $20.00 a share. The stock is expected
to pay $1.80 per share next month when the annual dividend is distributed. Eddie's has
established a pattern of increasing their dividends by 4% annually and expects to continue
doing so. What is the market rate of return on this stock?
A. 7%
B. 9%
C. 11%
D. 13%
E. 15%
; R = 13.00%
Difficulty level: Medium
Topic: Required Return
6-58
Chapter 06 - Stock Valuation
66. The dividend yield on Alpha's common stock is 4.8%. The company just paid a $2.10
dividend. The rumor is that the dividend will be $2.205 next year. The dividend growth rate is
expected to remain constant at the current level. What is the required rate of return on Alpha's
stock?
A. 10.04%
B. 16.07%
C. 21.88%
D. 43.75%
E. 45.94%
; P0 = $43.75;
; g = .05;
;
R = 10.04%
Difficulty level: Medium
Topic: Required Return
67. Martha's Vineyard recently paid a $3.60 annual dividend on its common stock. This
dividend increases at an average rate of 4.5% per year. The stock is currently selling for
$57.88 a share. What is the rate of return on the stock?
A. 6.5%
B. 7.5%
C. 8.5%
D. 9.0%
E. 11.0%
; R = 9.5%
Difficulty level: Medium
Topic: Required Return
6-59
Chapter 06 - Stock Valuation
68. Bet'R Bilt Bikes just announced that their annual dividend for this coming year will be
$1.42 a share and that all future dividends are expected to increase by 2.5% annually. What is
the market rate of return if this stock is currently selling for $14.20 a share?
A. 9.5%
B. 10.0%
C. 12.5%
D. 13.5%
E. 15.0%
; R = 12.50%
Difficulty level: Medium
Topic: Required Return
69. Shares of common stock of the Samson Co. offer an expected total return of 12%. The
dividend is increasing at a constant 8% per year. The dividend yield must be:
A. - 4%.
B. 4%.
C. 8%.
D. 12%.
E. 20%.
Dividend yield = 4%
Difficulty level: Medium
Topic: Dividend yield vs. Capital gains yield
6-60
Chapter 06 - Stock Valuation
70. The common stock of Grady Co. had an 11.25% rate of return last year. The dividend
amount was $.70 a share which equated to a dividend yield of 1.5%. What was the rate of
price appreciation on the stock?
A. 1.50%
B. 8.00%
C. 9.75%
D. 11.25%
E. 12.75%
g = .1125 - .015 = .0975 = 9.75%
Difficulty level: Easy
Topic: Capital Gain
71. Weisbro and Sons common stock sells for $21 a share and pays an annual dividend that
increases by 5% annually. The market rate of return on this stock is 9%. What is the amount
of the last dividend paid by Weisbro and Sons?
A. $.77
B. $.80
C. $.84
D. $.87
E. $.88
; D0 = $.80
Difficulty level: Medium
Topic: Dividend Amount
6-61
Chapter 06 - Stock Valuation
72. The common stock of Energizer's pays an annual dividend that is expected to increase by
10% annually. The stock commands a market rate of return of 12% and sells for $55.00 a
share. What is the expected amount of the next dividend to be paid on Energizer's common
stock?
A. $.90
B. $1.00
C. $1.10
D. $1.21
E. $1.33
; D1 = $1.10
Difficulty level: Medium
Topic: Dividend Amount
73. The Reading Co. has adopted a policy of increasing the annual dividend on their common
stock at a constant rate of 3.5% annually. The last dividend they paid was $0.95 a share. What
will the company's dividend be in five years?
A. $.90
B. $.93
C. $1.03
D. $1.13
E. $1.23
; D6 = $1.07
Difficulty level: Medium
Topic: Dividend Amount
6-62
Chapter 06 - Stock Valuation
74. A stock pays a constant annual dividend and sells for $31.11 a share. If the dividend yield
on this stock is 9%, what is the dividend amount?
A. $1.40
B. $1.80
C. $2.20
D. $2.40
E. $2.80
; D0 = $2.80
Difficulty level: Medium
Topic: Constant Dividend
75. You have decided that you would like to own some shares of GH Corp. but need an
expected 12.5% rate of return to compensate for the perceived risk of such ownership. What is
the maximum you are willing to spend per share to buy GH stock if the company pays a
constant $3.40 annual dividend per share?
A. $26.04
B. $26.87
C. $27.20
D. $28.29
E. $29.59
; P0 = $27.20
Difficulty level: Medium
Topic: Constant Dividend
6-63
Chapter 06 - Stock Valuation
76. Turnips and Parsley common stock sells for $31.65 a share at a market rate of return of
9.5%. The company just paid their annual dividend of $1.20. What is the rate of growth of
their dividend?
A. 5.2%
B. 5.5%
C. 5.9%
D. 6.0%
E. 6.3%
.; g = 5.5%
Difficulty level: Medium
Topic: Growth Dividend
77. B&K Enterprises will pay an annual dividend of $2.10 a share on its common stock next
year. Last week, the company paid a dividend of $2.00 a share. The company adheres to a
constant rate of growth dividend policy. What will one share of B&K common stock be worth
ten years from now if the applicable discount rate is 9%?
A. $71.16
B. $74.01
C. $76.97
D. $80.05
E. $85.52
; g = .05;
; D10 = $85.52
Difficulty level: Challenge
Topic: Growth Dividend
6-64
Chapter 06 - Stock Valuation
78. Wilbert's Clothing Stores just paid a $1.25 annual dividend. The company has a policy
whereby the dividend increases by 2% annually. You would like to purchase 100 shares of
stock in this firm but realize that you will not have the funds to do so for another three years.
If you desire a 12% rate of return, how much should you expect to pay for 100 shares when
you can afford to buy this stock? Ignore trading costs.
A. $1,040
B. $1,160
C. $1,353
D. $1,766
E. $1,810
; P3 = $13.53 Purchase cost = 100 $13.53 = $135,379.
; P5 = $22.36
Difficulty level: Medium
Topic: Growth Dividend
79. The Merriweather Co. just announced that it is paying a dividend next year of $1.60 and is
establishing a policy whereby the dividend will increase by 3.5% annually thereafter. How
much will one share of this stock be worth five years from now if the required return is 12%?
A. $21.60
B. $22.36
C. $23.14
D. $23.95
E. $24.79
Difficulty level: Medium
Topic: Growth Dividend
6-65
Chapter 06 - Stock Valuation
80. Shares of the Katydid Co. common stock are currently selling for $33.60. The last
dividend paid was $1.60 per share. The market rate of return is 10%. At what rate is the
dividend growing?
A. 3.50%
B. 4.60%
C. 5.00%
D. 6.05%
E. 6.91%
; g = 5.00%
Difficulty level: Medium
Topic: Growth Dividend
81. The Bell Weather Co. is a new firm in a rapidly growing industry. The company is
planning on increasing its annual dividend by 20% a year for the next four years and then
decreasing the growth rate to 5% per year. The company just paid its annual dividend in the
amount of $1.00 per share. What is the current value of one share of this stock if the required
rate of return is 10.25%?
A. $33.04
B. $38.19
C. $41.05
D. $43.19
E. $45.81
Dividends for the first 4 years are: $1.20, $1.44, $1.728, and $2.0736.
;P4 = $51.2301
; P0 = $33.04
Difficulty level: Challenge
Topic: Differential Growth Dividends
6-66
Chapter 06 - Stock Valuation
82. The Extreme Reaches Corp. last paid a $1.50 per share annual dividend. The company is
planning on paying $3.00, $5.00, $7.50, and $10.00 a share over the next four years,
respectively. After that the dividend will be a constant $2.50 per share per year. What is the
market price of this stock if the market rate of return is 14%?
A. $17.04
B. $22.39
C. $26.57
D. $28.03
E. $33.71
; P4 = $17.8571
; P0 = $31.61
Difficulty level: Challenge
Topic: Differential Growth Dividends
83. Can't Hold Me Back, Inc. is preparing to pay its first dividends. It is going to pay $1.00,
$2.50, and $5.00 a share over the next three years, respectively. After that, the company has
stated that the annual dividend will be $1.25 per share indefinitely. What is this stock worth to
you per share if you demand a 6% rate of return?
A. $7.20
B. $14.48
C. $18.88
D. $24.85
E. $31.61
.
; P3 = $20.8333
; P0 = $24.85
Every answer is wrong. The correct answer is 24.85. See math section
Difficulty level: Challenge
Topic: Differential Growth Dividends
6-67
Chapter 06 - Stock Valuation
84. NU YU announced today that it will begin paying annual dividends. The first dividend
will be paid next year in the amount of $.25 a share. The following dividends will be $.40,
$.60, and $.75 a share annually for the following three years, respectively. After that,
dividends are projected to increase by 3.5% per year. How much are you willing to pay to buy
one share of this stock if your desired rate of return is 12%?
A. $1.45
B. $5.80
C. $7.25
D. $9.06
E. $10.58
.
; P4 = $9.13235
;
; P0= $7.25
Difficulty level: Challenge
Topic: Differential Growth Dividends
85. Now or Later, Inc. recently paid $1.10 as an annual dividend. Future dividends are
projected at $1.14, $1.18, $1.22, and $1.25 over the next four years, respectively. After that,
the dividend is expected to increase by 2% annually. What is one share of this stock worth to
you if you require an 8% rate of return on similar investments?
A. $15.62
B. $19.57
C. $21.21
D. $23.33
E. $25.98
; P4 = $21.25
; P0 = $19.57
Difficulty level: Challenge
Topic: Differential Growth Dividends
6-68
Chapter 06 - Stock Valuation
86. The Red Bud Co. just paid a dividend of $1.20 a share. The company announced today
that it will continue to pay this constant dividend for the next three years after which time it
will discontinue paying dividends permanently. What is one share of this stock worth today if
the required rate of return is 8%?
A. $3.09
B. $3.15
C. $3.23
D. $3.44
E. $3.60
; P0= $3.02
Difficulty level: Challenge
Topic: Differential Growth Dividends
87. Bill Bailey and Sons pays no dividend at the present time. The company plans to start
paying an annual dividend in the amount of $.30 a share for two years commencing two years
from today. After that time, the company plans on paying a constant $1 a share dividend
indefinitely. How much are you willing to pay to buy a share of this stock if your required
return is 15%?
A. $4.42
B. $4.81
C. $5.19
D. $5.36
E. $5.58
; P3 = $6.6667;
; P0 = $4.81
Difficulty level: Challenge
Topic: Differential Growth Dividends
6-69
Chapter 06 - Stock Valuation
88. The Lighthouse Co. is in a downsizing mode. The company paid a $2.50 annual dividend
last year. The company has announced plans to lower the dividend by $.50 a year. Once the
dividend amount becomes zero, the company will cease all dividends permanently. You place
a required rate of return of 16% on this particular stock given the company's situation. What is
one share of this stock worth to you today?
A. $3.76
B. $4.08
C. $4.87
D. $5.13
E. $5.39
; P0 = $3.76
Difficulty level: Challenge
Topic: Differential Growth Dividends
89. Mother and Daughter Enterprises is a relatively new firm that appears to be on the road to
great success. The company paid its first annual dividend yesterday in the amount of $.28 a
share. The company plans to double each annual dividend payment for the next three years.
After that time, it is planning on paying a constant $1.50 per share indefinitely. What is one
share of this stock worth today if the market rate of return on similar securities is 11.5%?
A. $9.41
B. $11.40
C. $11.46
D. $11.93
E. $12.43
Dividends for the next three years are $.56, $1.12, and $2.24.
; P3 = $13.04348;
P0 = $12.43
Difficulty level: Challenge
Topic: Differential Growth Dividends
6-70
Chapter 06 - Stock Valuation
90. BC n D just paid its annual dividend of $.60 a share. The projected dividends for the next
five years are $.30, $.50, $.75, $1.00, and $1.20, respectively. After that time, the dividends
will be held constant at $1.40. What is this stock worth today at a 6% discount rate?
A. $20.48
B. $20.60
C. $21.02
D. $21.28
E. $21.43
; P5 = $23.333
P0 = $20.48
Difficulty level: Challenge
Topic: Differential Growth Dividends
91. Beaksley, Inc. is a very cyclical type of business that is reflected in its dividend policy.
The firm pays a $2.00 a share dividend every other year. The last dividend was paid last year.
Five years from now, the company is repurchasing all of the outstanding shares at a price of
$55 a share. At an 9% rate of return, what is this stock worth today?
A. $34.03
B. $37.21
C. $38.85
D. $44.09
E. $51.18
P0 = $38.85
Difficulty level: Challenge
Topic: Differential Growth Dividends
6-71
Chapter 06 - Stock Valuation
92. Last week, Railway Cabooses paid their annual dividend of $1.20 per share. The company
has been reducing the dividends by 5% each year. How much are you willing to pay to
purchase stock in this company if your required rate of return is 14%?
A. $4.50
B. $6.00
C. $10.80
D. $12.67
E. $27.00
; P0 = $6.00
Difficulty level: Medium
Topic: Negative Growth
93. Nu-Tek, Inc. is expecting a period of intense growth, so it has decided to retain more of its
earnings to help finance that growth. As a result it is going to reduce its annual dividend by
10% a year for the next three years. After that it will maintain a constant dividend of $.70 a
share. Last year, the company paid $1.80 per share. What is the market value of this stock if
the required rate of return is 13%?
A. $6.79
B. $7.22
C. $8.22
D. $8.87
E. $9.01
; P3 = $5.3846
; P0 = $7.22
Difficulty level: Challenge
Topic: Negative Growth
6-72
Chapter 06 - Stock Valuation
94. The Double Dip Co. is expecting its ice cream sales to decline due to the increased interest
in healthy eating. Thus, the company has announced that it will be reducing its annual
dividend by 5% a year for the next two years. After that, Double Dip will maintain a constant
dividend of $1 a share. Last year, the company paid $1.40 per share. What is this stock worth
to you if you require a 9% rate of return?
A. $10.86
B. $11.11
C. $11.64
D. $12.98
E. $14.23
; P2 = $11.1111
P0 = $11.64
Difficulty level: Challenge
Topic: Negative Growth
95. Butterup's N More wants to offer some preferred stock that pays an annual dividend of
$2.00 a share forever. The company has determined that stocks with similar characteristics
provide a 10% rate of return. What price should Butterup's expect to receive per share for this
stock offering?
A. $18.35
B. $20.00
C. $21.80
D. $22.22
E. $24.22
P = $2.00 .10 = $20.00
Difficulty level: Easy
Topic: Preferred Stock
6-73
Chapter 06 - Stock Valuation
96. The preferred stock of North Coast Shoreline pays an annual dividend of $1.60 and sells
for $20.65 a share. What is the dividend yield on this security?
A. 5.95%
B. 7.75%
C. 8.40%
D. 11.90%
E. 14.17%
R = $1.60 $20.65 = 7.75%
Difficulty level: Easy
Topic: Preferred Stock
97. Jim owns shares of Abco, Inc. preferred stock which he says provides him with a constant
6.58% rate of return. The stock is currently priced at $45.60 a share. What is the amount of
the dividend per share?
A. $3.00
B. $3.15
C. $3.50
D. $3.54
E. $3.62
D = .0658 $45.60 = $3.00
Difficulty level: Easy
Topic: Preferred Stock
6-74
Chapter 06 - Stock Valuation
98. You want to earn a 12% rate of return. Panco, Inc. preferred stock pays a $4.50 annual
dividend. What is the maximum price you are willing to pay for one share of this stock?
A. $32.50
B. $37.50
C. $39.00
D. $40.50
E. $45.00
P0 = $4.50 .12 = $37.50
Difficulty level: Medium
Topic: Preferred Stock
99. Which of the following amounts is closest to what should be paid for Overland common
stock? Overland has just paid a dividend of $2.25. These dividends are expected to grow at a
rate of 5% in the foreseeable future. The risk of this company suggests that future cash flows
should be discounted at a rate of 11%.
A. $20.45
B. $21.48
C. $37.50
D. $39.38
E. $47.70
Value of stock = D0(1+g)/(r-g) = $2.25(1+0.05)/(0.11-0.05) = $39.375
Difficulty level: Medium
Topic: Constant Growth Stock Valuation
6-75
Chapter 06 - Stock Valuation
100. What would be the maximum an investor should pay for the common stock of a firm that
has no growth opportunities but pays a dividend of $1.85 per year? The next dividend will be
paid in exactly 1 year. The required rate of return is 14.5%.
A. $9.52
B. $10.88
C. $12.76
D. $17.00
E. None of the above.
$1.85/.145 = $12.76
Difficulty level: Easy
Topic: Stock Valuation/Perpetuity
101. Mortgage Instruments Inc. is expected to pay dividends of $1.04 next year. The company
just paid dividends of $1. This growth rate is expected to continue. How much should be paid
for Mortgage Instruments stock just after the dividend if the appropriate discount rate is 6%?
A. $20.00
B. $21.50
C. $34.75
D. $51.25
E. $52.00
g = (D1-D0)/D0 = ($1.03-$1.00)/$1.00 = 0.03 (g=3%)
Value of stock = D1/(r-g) = $1.03/(0.05-0.03) = $51.50
Difficulty level: Medium
Topic: Constant Growth Stock Valuation
6-76
Chapter 06 - Stock Valuation
102. The Felix Corp. projects to pay a dividend of $.75 next year and then have it grow at
12% for the following three years before growing at 8% indefinitely thereafter. The equity has
a required return of 10% in the market. The price of the stock should be ___.
A. $9.375
B. $17.05
C. $41.39
D. $59.80
E. $62.38
Value of stock = [($0.75/1.1) + ($0.84/(1.1)2) + ($0.94/(1.1)3) + ($1.05/(1.1)4) + (($1.13/.02)/
(1.1)-4) = $41.39
Difficulty level: Challenge
Topic: Differential Stock Valuation
103. If a company paid a dividend of $0.50 last year and it is expected to grow at 7% for the
next 8 years and then grow at 5% thereafter, the dividend expected in year 8 is __.
A. $0.73
B. $0.75
C. $0.78
D. $0.79
E. $0.86
Div(8) = $0.50*(1+.07)8 = $0.86 Div Year 8 = .50*1.07^8=.86
Difficulty level: Medium
Topic: Forecasted Dividend Payment
6-77
Chapter 06 - Stock Valuation
104. The Lory Company had net earnings of $127,000 this past year. Dividends of $38,100
were paid on the company's equity of $1,587,500. If Lory has 100,000 shares outstanding
with a current market price of $11.625 per share, and the growth rate was 5.6% what is the
required rate of return?
A. 4.2%
B. 6%
C. 9%
D. 14%
E. None of the above.
R = Div/P0 + g = (.381(1.056))/11.625)+.056 = (.40/11.625)+.056 = .0346 + .056 = .0906 =
9%
Difficulty level: Medium
Topic: Required Return
105. Doctors-On-Call, a newly formed medical group, just paid a dividend of $.50. The
company's dividends are expected to grow at a 20% rate for the next 5 years and at a 3% rate
thereafter. What is the value of the stock if the appropriate discount rate is 12%?
A. $8.08
B. $11.17
C. $14.22
D. $17.32
E. $30.90
Years 1-5: ($0.50(1.2)t/(1.12)t + (1.28/.09)/(1.12)5 = $11.17
Difficulty level: Challenge
Topic: Differential Growth Valuation
6-78
Chapter 06 - Stock Valuation
106. A stock you are interested in paid a dividend of $1 last year. The anticipated growth rate
in dividends and earnings is 20% for the next year and 10% the year after that before settling
down to a constant 5% growth rate. The discount rate is 12%. Calculate the expected price of
the stock.
A. $17.20
B. $17.90
C. $18.20
D. $19.40
E. $19.75
Price = $1.00(1.20)/1.12 + $1.20(1.100)/1.2544 + [$1.32(1.05)/(.12-.05)]/1.2544 = $17.90
Difficulty level: Challenge
Topic: Differential Growth Valuation
107. A stock you are interested in paid a dividend of $1 last year. The anticipated growth rate
in dividends and earnings is 25% for the next 2 years before settling down to a constant 5%
growth rate. The discount rate is 12%. Calculate the expected price of the stock.
A. $15.38
B. $20.50
C. $21.04
D. $22.27
E. $26.14
Price = $1.00(1.25)/1.12 + $1.25(1.25)/1.2544 + [$1.5625(1.05)/(.12-.05)]/1.2544 = $21.04
Difficulty level: Challenge
Topic: Differential Growth Valuation
6-79
Chapter 06 - Stock Valuation
108. Which of the following values is closest to the amount that should be paid for a stock
that will pay a dividend of $10 in one year and $11 in two years? The stock will be sold in 2
years for an estimated price of $120. The appropriate discount rate is 8%.
A. $114.60
B. $119.40
C. $124.20
D. $121.57
E. $138.75
Value of stock = D1/(1+r) + (D2+P2)/(1+r)2 = $10/(1+0.08) + ($11+$120)/(1+0.08)2 = $121.57
Difficulty level: Medium
Topic: Stock Valuation
109. You want to earn a 12% rate of return. Panco, Inc. preferred stock pays a $6.75 annual
dividend. What is the maximum price you are willing to pay for one share of this stock?
A. $6.75
B. $52.54
C. $55.00
D. $56.25
E. $58.21
P0 = $6.75 .12 = $56.25
Difficulty level: Medium
Topic: Preferred Stock
6-80
Chapter 06 - Stock Valuation
110. Which of the following amounts is closest to what should be paid for Ryan common
stock? Ryan has just paid a dividend of $1.75. These dividends are expected to grow at a rate
of 5% in the foreseeable future. The risk of this company suggests that future cash flows
should be discounted at a rate of 12%.
A. $18.75
B. $19.50
C. $22.50
D. $26.25
E. None of the above.
Value of stock = D0(1+g)/(r-g) = $1.75(1+0.05)/(0.12-0.05) = $26.25
Difficulty level: Medium
Topic: Constant Growth Stock Valuation
111. What would be the maximum an investor should pay for the common stock of a firm that
has no growth opportunities but pays a dividend of $2.50 per year? The next dividend will be
paid in exactly 1 year. The required rate of return is 11%.
A. $19.52
B. $21.50
C. $22.73
D. $25.22
E. None of the above.
$2.50/.11 = $22.73
Difficulty level: Easy
Topic: Stock Valuation/Perpetuity
6-81
Chapter 06 - Stock Valuation
112. Ramchander Investment Group is expected to pay dividends of $1.40 next year. The
company just paid dividends of $1.30. This growth rate is expected to continue. How much
should be paid for Ramchander Investment Group stock just after the dividend if the
appropriate discount rate is 10%?
A. $14.00
B. $35.85
C. $58.90
D. $60.61
E. $65.27
g = (D1-D0)/D0 = ($1.40-$1.30)/$1.30 = 0.0769 (g=7.69%)
Value of stock = D1/(r-g) = $1.40/(0.10-0.0769) = $60.61
Difficulty level: Medium
Topic: Constant Growth Stock Valuation
Essay Questions
113. List the four types of New York Stock Exchange members and give a brief definition of
what each member does.
This is a simple listing question, the answer to which should include:
1. Commission broker: Executes customer orders to buy/sell stock as transmitted to the
exchange floor
2. Specialist (market maker): Acts as a dealer in a small number of securities on the exchange
floor
3. Floor broker: Executes orders for commission brokers on a fee basis
4. Floor trader: Trades for their own account in an attempt to profit on temporary price
fluctuations
Difficulty level: Difficult
Topic: NYSE Members
6-82
Chapter 06 - Stock Valuation
114. What are the primary differences between NASDAQ and the NYSE?
According to the basic information in the text, the NYSE has a physical location, while
NASDAQ does not. NASDAQ has multiple market makers while the NYSE utilizes
specialists for each security traded. Also, NASDAQ is a dealer market while the NYSE
utilizes brokers.
Difficulty level: Difficult
Topic: NASDAQ Vs. NYSE
115. What are the components of the required rate of return on a share of stock? Briefly
explain each component.
The two components are dividend yield, which measures the annual percentage income return
on a stock, and the capital gains yield, which is the percentage of price appreciation or
depreciation.
Difficulty level: Difficult
Topic: Required Return
116. Briefly explain the differences between preferred and common stock.
Common stockholders have the right to vote on corporate matters and have the right to
receive the residual value of the firm after all liabilities and preferred stockholders are paid in
a liquidation. Preferred stockholders have a promised dividend, may or may not have the right
to collect dividends that have been passed, and typically will be rated much like bonds. In a
liquidation, preferred shareholders have a preference over common stockholders.
Difficulty level: Difficult
Topic: Preferred vs. Common stock
6-83
Chapter 06 - Stock Valuation
117. Explain whether it is easier to find the required return on a publicly traded stock or a
publicly traded bond, and explain why.
Bonds, unlike stocks, have a final maturity date and promised payments at fixed periods of
time. Thus, once an appropriate discount rate is established, valuing a bond is relatively
simple. For stocks, the only valuation model we have up to this point in the text is the
dividend growth model which requires estimation of a dividend growth rate and also requires
that certain conditions be met before the dividend growth model can be applied. Normally, all
of the information required to find the yield on a publicly traded bond is publicly available
while only the price and the most current dividend are available for stocks.
Difficulty level: Difficult
Topic: Stocks vs. Bonds
118. A number of publicly traded firms pay no dividends yet investors are willing to buy
shares in these firms. How is this possible? Does this violate our basic principle of stock
valuation? Explain.
Our basic principle of stock valuation is that the value of a share of stock is simply equal to
the present value of all of the expected dividends on the stock. According to the dividend
growth model, an asset that has no expected cash flows has a value of zero, so if investors are
willing to purchase shares of stock in firms that pay no dividends, they evidently expect that
the firms will begin paying dividends at some point in the future.
Difficulty level: Difficult
Topic: Zero-Dividend Stocks
6-84
Chapter 06 - Stock Valuation
119. A firm has two classes of common stock outstanding: Class A, which carries voting
rights of 10 votes per share but receives no dividends (ever), and Class B, which carries
voting rights of 1 vote per share and pays dividends whenever they are declared by the board.
Which would you be willing to pay more for and why?
This is a very open-ended question to get the students thinking about the differing interests of
investors. Management of the firm would likely prefer Class A while investors interested in
dividends would likely prefer Class B shares. The Class B shares with their ordinary voting
rights and dividends can be valued using the dividend growth model but the Class A shares,
whose value is derived completely from the voting rights, would be very difficult to value.
Difficulty level: Difficult
Topic: Classes of Stock
120. Are most stocks constant growth or differential growth? Why?
While there are some, generally slow growth, stable firms that likely have a constant growth
rate, most analysts use the differential growth model, even for these firms. Even for a stable
firm, it is possible to look more closely at the investment projects facing the firm in the next
few years with more accuracy than those several years out into the future. For this reason
alone, the use of the differential growth model is nearly universally applied in this type of
common stock valuation. Most firms will indeed have differential growth; others may have
perceived differential growth, but the two groups are hard to distinguish when evaluating the
firm or its projects. The differential growth model, once built into an Excel spreadsheet, is
flexible to changes and generally makes a better practical valuation model.
Difficulty level: Difficult
Topic: Constant Growth Stocks
6-85

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Christopher Newport University - BIOL - 101

Kelly HayesMay 24, 2010Paper #4Ehlers-Danlos SyndromeEhlers-Danlos syndrome is a group of inherited disorders that affects the connectivetissue in the body. It is characterized by very fragile and flexible joints that extend beyond thenormal range o

Christopher Newport University - BIOL - 101

EDS PresentationSlide 1: Ehlers-Danlos syndrome By: Kelly HayesSlide 2: My StorySlide 3: What is EDS?o Group of disorders that affect the connective tissue Connective tissue provides support for skin, muscles, and ligamentso Characterized by extrem

Christopher Newport University - BIOL - 101

By: Kelly HayesEhlers-danlos syndromeMy StoryI blame myparents.What is EDS?Group ofdisorders thataffect theconnective tissueCharacterized byextremely flexiblejoints and skinextensibilityResult of faultycollagenTypes and SymptomsThere are

Christopher Newport University - BIOL - 101

Kelly HayesMay 12, 2011Paper #1GalactosemiaGalactosemia is a metabolic disorder that results in the bodys inability to break down thesugar galactose. Galactose is a sugar produced from the breakdown of lactose to glucose, and isused as energy for th

Christopher Newport University - BIOL - 101

Kelly HayesMay 16, 2011Paper #2Phenylketonuria (PKU)Phenylketonuria, or PKU, is an autosomal recessive metabolic disorder that is indicatedby increased levels of phenylalanine in the blood. Phenylalanine is an essential amino acidfound in high-prote

Christopher Newport University - ECON - 100

SBS 110- EvolutionJanuary 11, 2010Peer Assisted Help- Monday 1-2 Francis Bancroft 3.16Recommended ReadingAn Introduction to Biological Evolution by KennethEvolution, an Introduction by Stephen StearnsLecture 1: Introduction and historical prospectiv