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59533341-FM11-Ch-07-Instructors-Manual-1

B in this situation the expected rate of return is as

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Unformatted text preview: ble. b. In this situation, the expected rate of return is as follows: › r c= D1/P0 + g = $1.50/$25 + 4% = 10%. However, the required rate of return is 10.6 percent. Investors will seek to sell the stock, dropping its price to the following: Ö PC = › At this point, r c= 7-11 $1.50 = $22.73. 0.106  0.04 $1.50 + 4% = 10.6%, and the stock will be in equilibrium. $22.73 D0 = $1, rS = 7% + 6% = 13%, g1 = 50%, g2 = 25%, gn = 6%. 0 rs = 13% g1 = 50% 1.327 1 2 3 | | | | 1.50 g2 = 25% g1 = 6% 4 | 1.875 1.9875 + 28.393 = 1.9875/(0.13 - 0.06) = 30.268 23.704 $25.03 Answers and Solutions: 7 - 7 7-12 Calculate the dividend stream and place them on a time line. Also, calculate the price of the stock at the end of the supernormal growth period, and include it, along with the dividend to be paid at t = 5, as CF5. Then, enter the cash flows as shown on the time line into the cash flow register, enter the required rate of return as I = 15, and then find the value of the stock using the NPV calculation. Be sure to enter CF0 = 0, or else your answer will be incorrect. D0 = 0; D1 = 0, D2 = 0, D3 = 1.00 D4 = 1.00(1.5) = 1.5; D5 = 1.00(1.5)2 = 2.25; D6 = 1.00(1.5)2(1.08) = $2.43. Ö P0 = ? 0 rs = 15% 1 2 3 g = 50% 4 5 g = 8% 6 | | | | | | 1.00 0.66 0.86 18.38 Ö $19.89 = P0 | 1.50 2.25 34.71 36.96 2.43 0.15  0.08 Ö P5 = D6/(rs - g) = 2.43/(0.15 - 0.08) = 34.71. This is the price of the stock at the end of Year 5. CF0 = 0; CF1-2 = 0; CF3 = 1.0; CF4 = 1.5; CF5 = 36.96; I = 15%. With these cash flows in the CFLO register, press NPV to get the value of the stock today: NPV = $19.89. 7-13 a. Vps = b. Vps = D ps rps = $10 = $125. 0.08 $10 = $83.33. 0.12 Answers and Solutions: 7 - 8 7-14 0 | g = 5% D0 = 2.00 1 2 3 4 | | | | D1 D2 D3 D4 Ö P3 a. D1 = $2(1.05) = $2.10. D2 = $2(1.05)2 = $2.21. D3 = $2(1.05)3 = $2.32. b. PV = $2.10(0.8929) + $2.21(0.7972) + $2.32(0.7118) = $5.29. Calculator solution: Input 0, 2.10, 2.21, and 2.32 into the cash flow register, input I = 12, PV = ? PV = $5.29. c. $34.73(0.7118) = $24.72. Calc...
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