Corporate Finance Week 4 Chapter 7 Problems 2015

Chapter: 7

Hamilton Landscaping's dividend growth rate is expected to be 30% in the next year, drop to 15% from Year 1 to Year 2, and drop to a constant 5% for Year 2 and all subsequent years. Hamilton has just paid a dividend of $2.50 and its stock has a required return of 11%.

a. What is Hamilton's estimated stock price today?

D0 $2.50

rs 11.0%

g0,1 30%

g1,2 15%

gL 5%

a. What is Hamilton's estimated stock price for Year 1?

b. If you bought the stock at Year 0, what your expected dividend yield and capital gains for the upcoming year?

c. What your expected dividend yield and capital gains for the second year (from Year 1 to Year 2)? Why aren't these the same as for the first year?

2. Find the expected capital gains yield.

Week 4 Problem 2

Selected data for the Derby Corporation are shown below. Use the data to answer the following questions.

INPUTS (In millions) Year

Current Projected

0 1 2 3 4

Free cash flow -$20.0 $20.0 $80.0 $84.0

Marketable Securities $40

Notes payable $100

Long-term bonds $300

Preferred stock $50

WACC 9.00%

Number of shares of stock 40

a. Calculate the estimated horizon value (i.e., the value of operations at the end of the forecast period immediately after the Year-4 free cash flow).

Current Projected

0 1 2 3 4

Free cash flow -$20.0 $20.0 $80.0 $84.0

Long-term constant growth in FCF

Horizon value

b. Calculate the present value of the horizon value, the present value of the free cash flows, and the estimated Year-0 value of operations.

PV of horizon value

PV of FCF

Value of operations (PV of FCF + HV)

c. Calculate the estimated Year-0 price per share of common equity.

Value of operations

Plus value of narketable securities

Total value of company

Less value of debt

Less value of preferred stock

Estimated value of common equity

Divided by number of shares

Price per share