PP Equity Valuation

# 0 and the assume capitalization rate is 125 abnormal

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Unformatted text preview: dends today are \$1.0 and the Assume capitalization rate is 12.5%. Abnormal growth for two years: g1 = 20%; g2 = 15% after which growth two will be constant at 10.5%. Compute P0. will Time Line: 20% 20% 0 15% 15% 1 10.5% 10.5% 2 3 D1 = D0 (1+g) = 1.0 (1.20) = \$1.20 1.0 D2 = D1(1.15) = \$1.20(1.15) =\$1.38 \$1.20(1.15) D3 = D2 (1.105) = \$1.52 P2 = D3/(k–g) = \$1.52/(0.125–0.105)=\$76.0 P0 = 76 / (1.125)2 + 1.20/(1.125)+1.38/(1.125)2 = = \$62.20 \$62.20 Preferred Stock Preferred V0 = Discounted stream of constant dividends V0 = Dp / kp Same as finding the PV of perpetuity. Example: A firm’s preferred stock paying a dividend of \$3.0 is firm’s selling to yield 75 basis points below the firm’s bond below yield, which is currently 7.25% . Estimate the value of the preferred stock the Discount rate = 7.25% – 0.75% = 6.5% Dp/kp = \$3 / 0.065 = \$46.15 Dp/kp Stock Price and Investment Opportunities Stock b 1-b 1-b = Plowback ratio, retention ratio = Dividend payout ratio. Dividend g = ROE x b If firms have good investment opportunities b↑ → g ↑ If firms have few investment opportunities b↓ → g ↓ P0 = E / k + PV (CF) When dividends are cut → P ↓ Dividend cut is perceived as bad news about future Dividend earnings. earnings. It’s the new information about the firm that factors into It’s PV (CF) → P ↓ PV Is this contradictory? Is Investors are only interested in freeing up funds for Investors corpo...
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## This document was uploaded on 02/05/2014.

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