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Stock Valuation Solution

# Stock Valuation Solution - Stock Valuation 1 Carlton...

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Stock Valuation 1. Carlton Corporation just paid a dividend of \$3 per share. The company expects to grow their dividend at 20% per year for the next three years. After three years, the company expects to grow their dividends at 6% for the foreseeable future. How much would you pay this company if you had a required return of 15%? D1 = D0(1+g1) = \$3 (1.20) = \$3.60 D2 = D1(1+g1) = 3.60 (1.20) = \$4.32 D3 = D2(1+g1) = 4.32(1.2) = \$5.18 P2 = D3/(r-g2) = 5.18/(0.15-.06) = 57.56 P0 = 3.60/(1.15) + (4.32 + 57.56)/1.15^2 = 49.92 2. Assume that you have a company that makes \$4 per share in net income. Assume the company has a incremental return on investment of 30% and investors require a 15% rate of return on companies of this type. a) If the company were to payout 100% of their earnings, what would be the price and P/E of the stock? Po = \$4/0.15 (i.e. pay out all earnings leads to g = 0) Po = 26.67 P/E = 26.67/4 = 6.67

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b) If the company were to payout 80% of their earnings, what would be the price and P/E of the stock? Po = 3.20/(0.15 – 0.06) = 35.56, g = reinvestment% x incremental return on inv = 0.20 x 0.30
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