MGT 326 Fall 2007 Test 2 Problem Solutions
1
7. (Ch5) The stock of Jelly Bean Jim’s Confectionaries Inc. is currently selling for $50 per share.
The firm's dividends are
expected to grow at a rate of 15% per year for the next four
years
(i.e. until t=4).
After this time, the dividends are expected to
grow at a constant rate of 7% per year for the foreseeable future.
The firm pays
annual
dividends and plans to pay a dividend
of $1.80 at the
end of this year
(i.e. at t=1).
The stock's required rate of return is 11%.
Is this stock
undervalued or overvalued
and by how much?
1)
Find D
2
, D
3
& D
4
:
D
1
= $1.8
Solution Opt 1:
D
2
= $1.8(1+0.15/1) =
$2.07
; D
3
= $0.83(1+0.15/1) =
$2.3805
; D
4
= $0.8611(1+0.15/1) =
$2.7376
Solution Opt 2:
D
2
= $1.8(1+0.15/1) =
$2.07
; D
3
= $1.8(1+0.15/1)
2
=
$2.3805
; D
4
= $1.8(1+0.15/1)
3
=
$2.7376
Solution Opt 3:
D
2
=[P/Y=1,N=1, I/Y=15, PV=1.8; CPT,FV]
$2.07
;
2)
Find PV at t=0 of D
1
, D
2
, D
3
& D
4
and sum them
Use Cash Flow Worksheet on your calculator
CF, 2
nd
, CLR WORK (Clear cash flow worksheet)
0, ENTER
↓, 1.8, ENTER
↓, ↓, 2.07, ENTER
↓, ↓, 2.3805, ENTER
↓, ↓, 2.7376, ENTER
NPV, 11, ENTER
↓, CPT: NPV =
$6.8456
3)
Find Horizon Value: D
4
(1 + g
N
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 Spring '08
 Cormier
 Net Present Value, enter, Cash Flow Registers, ENTER NPV

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