Deck 9: Valuing Stocks

Question 1

Which of the following is NOT a way that a firm can increase its dividend?

A)By increasing its retention rate
B)By decreasing its shares outstanding
C)By increasing its earnings (net income)
D)By increasing its dividend payout rate

Answer 1

By increasing its retention rate

Question 2

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
Rearden's expected capital gains yield is closest to:

A)4.0%
B)6.4%
C)8.2%
D)10.0%

Answer 2

10.0%

Question 3

Which of the following statements is FALSE?

A)As firms mature, their earnings exceed their investment needs and they begin to pay dividends.
B)Total return equals earnings multiplied by the dividend payout rate.
C)Cutting the firm's dividend to increase investment will raise the stock price if, and only if, the new investments have a positive NPV.
D)We cannot use the constant dividend growth model to value the stock of a firm with rapid or changing growth.

Answer 3

Total return equals earnings multiplied by the dividend payout rate.

Question 4

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
You expect KT Industries (KTI)will have earnings per share of $3 this year and expect that they will pay out $1.50 of these earnings to shareholders in the form of a dividend. KTI's return on new investments is 15% and their equity cost of capital is 12%. The expected growth rate for KTI's dividends is closest to:

A)6.0%
B)7.5%
C)4.5%
D)3.0%

Question 5

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
The Sisyphean Company's common stock is currently trading for $25.00 per share. The stock is expected to pay a $2.50 dividend at the end of the year and the Sisyphean Company's equity cost of capital is 14%. If the dividend payout rate is expected to remain constant, then the expected growth rate in the Sisyphean Company's earnings is closest to:

A)8%
B)6%
C)4%
D)2%

Question 6

Which of the following statements is FALSE?

A)We should use the general dividend discount model to value the stock of a firm with rapid or changing growth.
B)As firms mature, their growth slows to rates more typical of established companies.
C)The dividend discount model values the stock based on a forecast of the future dividends paid to shareholders.
D)The simplest forecast for the firm's future dividends states that they will grow at a constant rate, g, forever.

Question 7

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
Von Bora Corporation (VBC)is expected to pay a $2.00 dividend at the end of this year. If you expect VBC's dividend to grow by 5% per year forever and VBC's equity cost of capital is 13%, then the value of a share of VBS stock is closest to:

A)$25.00
B)$40.00
C)$15.40
D)$11.10

Question 8

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
Luther Industries has a dividend yield of 4.5% and and a cost of equity capital of 12%. Luther Industries dividends are expected to grow at a constant rate indefinitely. The grow rate of Luther's dividends are closest to:

A)7.5%
B)5.5%
C)16.5%
D)12%

Question 9

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
JRN Enterprises just announced that it plans to cut its dividend from $2.50 to $1.50 per share and use the extra funds to expand its operations. Prior to this announcement, JRN's dividends were expected to grow at 4% per year and JRN's stock was trading at $25.00 per share. With the new expansion, JRN's dividends are expected to grow at 8% per year indefinitely. Assuming that JRN's risk is unchanged by the expansion, the value of a share of JRN after the announcement is closest to:

A)$25.00
B)$15.00
C)$31.25
D)$27.50

Question 10

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
You expect that Bean Enterprises will have earnings per share of $2 for the coming year. Bean plans to retain all of its earnings for the next three years. For the subsequent two years, the firm plans on retaining 50% of its earnings. It will then retain only 25% of its earnings from that point forward. Retained earnings will be invested in projects with an expected return of 20% per year. If Bean's equity cost of capital is 12%, then the price of a share of Bean's stock is closest to:

A)$17.00
B)$10.75
C)$27.75
D)$43.50

Question 11

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
NoGrowth industries presently pays an annual dividend of $1.50 per share and it is expected that these dividend payments will continue indefinitely. If NoGrowth's equity cost of capital is 12%, then the value of a share of NoGrowth's stock is closest to:

A)$10.00
B)$15.00
C)$14.00
D)$12.50

Question 12

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
You expect KT Industries (KTI)will have earnings per share of $3 this year and expect that they will pay out $1.50 of these earnings to shareholders in the form of a dividend. KTI's return on new investments is 15% and their equity cost of capital is 12%. The value of a share of KTI's stock is closest to:

A)$39.25
B)$20.00
C)$33.35
D)$12.50

Question 13

Which of the following statements is FALSE?

A)A common approximation is to assume that in the long run, dividends will grow at a constant rate.
B)The dividend each year is the firm's earnings per share (EPS)multiplied by its dividend payout rate.
C)There is a tremendous amount of uncertainty associated with any forecast of a firm's future dividends.
D)During periods of high growth, it is not unusual for firms to pay out 100% of their earnings to shareholders in the form of dividends.

Question 14

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
Rearden's equity cost of capital is closest to:

A)4.0%
B)6.4%
C)8.2%
D)14.0%

Question 15

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
Nielson Motors has a share price of $25 today. If Nielson Motors is expected to pay a dividend of $0.75 this year, and its stock price is expected to grow to $26.75 at the end of the year, then Nielson's dividend yield and equity cost of capital are:

A)3.0% and 7.0% respectively.
B)3.0% and 10.0% respectively.
C)4.0% and 6.0% respectively.
D)4.0% and 10.0% respectively.

Question 16

Which of the following formulas is INCORRECT?

A)Div_t = × Dividend Payout Rate
B)P_N =
C)earnings growth rate = retention rate × return on new investment
D)P₀ = +
+ ... +
+
×

Question 17

Use the following information to answer the question(s)below.
Rearden Metals has a current stock price of $30 share, is expected to pay a dividend of $1.20 in one year, and its expected price right after paying that dividend is $33.
Rearden's expected dividend yield is closest to:

A)3.40%
B)3.65%
C)4.00%
D)4.20%

Question 18

Which of the following formulas is INCORRECT?

A)g = retention rate × return on new investment
B)Div_t = EPS_t × Dividend Payout Rate
C)P₀ =
D)r_E = - g

Question 19

Which of the following statements is false regarding profitable and unprofitable growth?

A)If a firm wants to increase its share price, it must cut its dividend and invest more.
B)If the firm retains more earnings, it will be able to pay out less of those earnings, which means that the firm will have to reduce its dividend.
C)A firm can increase its growth rate by retaining more of its earnings.
D)Cutting the firm's dividend to increase investment will raise the stock price if, and only if, the new investments have a positive NPV.

Question 20

Which of the following statements is FALSE?

A)Estimating dividends, especially for the distant future, is difficult.
B)A firm can only pay out its earnings to investors or reinvest their earnings.
C)Successful young firms often have high initial earnings growth rates.
D)According to the constant dividend growth model, the value of the firm depends on the current dividend level, divided by the equity cost of capital plus the growth rate.

Question 21

Which of the following statements is FALSE?

A)There are two potential sources of cash flows from owning a stock.
B)An investor will be willing to pay a price today for a share of stock up to the point that this transaction has a zero NPV.
C)An investor might generate cash by choosing to sell the shares at some future date.
D)Because the cash flows from stock are known with certainty, we can discount them using the risk-free interest rate.

Question 22

Use the information for the question(s)below.
Von Bora Corporation is expected pay a dividend of $1.40 per share at the end of this year and a $1.50 per share at the end of the second year. You expect Von Bora's stock price to be $25.00 at the end of two years. Von Bora's equity cost of capital is 10%.
Suppose you plan on purchasing Von Bora stock in one year, right after the $1.40 dividend is paid. You then plan on selling your stock at the end of year two, right after the $1.50 dividend is paid. The dividend yield that you will receive on your investment is closest to:

A)5.75%
B)6.50%
C)6.25%
D)4.00%

Question 23

Use the information for the question(s)below.
Von Bora Corporation is expected pay a dividend of $1.40 per share at the end of this year and a $1.50 per share at the end of the second year. You expect Von Bora's stock price to be $25.00 at the end of two years. Von Bora's equity cost of capital is 10%.
Suppose you plan to hold Von Bora stock for only one year. Your capital gain rate from holding Von Bora stock for the first year is closest to:

A)3.5%
B)4.0%
C)6.0%
D)4.5%

Question 24

Monsters Inc. is a utility company that recently paid a common stock dividend of $2.35 per share. Determine the current price of a share of Monsters' common stock if its divided growth rate is expected to remain at 7 percent per year indefinitely and its equity cost of capital is 12 percent.

Question 25

Use the information for the question(s)below.
Von Bora Corporation is expected pay a dividend of $1.40 per share at the end of this year and a $1.50 per share at the end of the second year. You expect Von Bora's stock price to be $25.00 at the end of two years. Von Bora's equity cost of capital is 10%.
Suppose you plan to hold Von Bora stock for only one year. Your capital gain from holding Von Bora stock for the first year is closest to:

A)$0.95
B)$1.40
C)$1.85
D)$1.25

Question 26

Which of the following statements is FALSE?

A)The equity cost of capital for a stock is the expected return of other investments available in the market with equivalent risk to the firm's shares.
B)The price of a share of stock is equal to the present value of the expected future dividends it will pay.
C)If the current stock price were less than P₀ = , it would be a negative NPV investment, and we would expect investors to rush in and sell it, driving down the stocks price.
D)The law of one price implies that to value any security, we must determine the expected cash flows an investor will receive from owning it.

Question 27

Use the information for the question(s)below.
Von Bora Corporation is expected pay a dividend of $1.40 per share at the end of this year and a $1.50 per share at the end of the second year. You expect Von Bora's stock price to be $25.00 at the end of two years. Von Bora's equity cost of capital is 10%.
Suppose you plan on purchasing Von Bora stock in one year, right after the $1.40 dividend is paid. You then plan on selling your stock at the end of year two, right after the $1.50 dividend is paid. The capital gain rate that you will receive on your investment is closest to:

A)4.00%
B)3.75%
C)6.25%
D)3.50%

Question 28

Use the information for the question(s)below.
Von Bora Corporation is expected pay a dividend of $1.40 per share at the end of this year and a $1.50 per share at the end of the second year. You expect Von Bora's stock price to be $25.00 at the end of two years. Von Bora's equity cost of capital is 10%.
Suppose you plan to hold Von Bora stock for one year. The price one would expect to be able to sell a share of Von Bora stock for in one year is closest to:

A)$26.50
B)$22.70
C)$23.15
D)$24.10

Question 29

Which of the following formulas is INCORRECT?

A)P₀ = +
+ ... +

B)P₀ =

C)r_E =
D)P₀ =

Question 30

When discounting dividends you should use:

A)the weighted average cost of capital.
B)the after tax weighted average cost of capital.
C)the equity cost of capital.
D)the before tax cost of debt.

Question 31

Use the information for the question(s)below.
Von Bora Corporation is expected pay a dividend of $1.40 per share at the end of this year and a $1.50 per share at the end of the second year. You expect Von Bora's stock price to be $25.00 at the end of two years. Von Bora's equity cost of capital is 10%.
Suppose you plan to hold Von Bora stock for only one year. Your dividend yield from holding Von Bora stock for the first year is closest to:

A)6.0%
B)4.0%
C)6.5%
D)5.5%

Question 32

Which of the following formulas is INCORRECT?

A)Capital Gains Rate =
B)Dividend Yield =
C)P₀ = +

D)r_E = Capital Gains Rate + Dividend Yield

Question 33

Use the information for the question(s)below.
Von Bora Corporation is expected pay a dividend of $1.40 per share at the end of this year and a $1.50 per share at the end of the second year. You expect Von Bora's stock price to be $25.00 at the end of two years. Von Bora's equity cost of capital is 10%.
The price you would be willing to pay today for a share of Von Bora stock, if you plan to hold the stock for two years is closest to:

A)$23.15
B)$20.65
C)$21.95
D)$21.90

Question 34

Growing Real Fast Company (GRF)is expected to have a 25 percent growth rate for the next four years (effecting D₁, D₂, D₃, and D₄). Beginning in year five, the growth rate is expected to drop to 7 percent per year and last indefinitely. If GRF just paid a $2.00 dividend and the appropriate discount rate is 15 percent, then what is the value of a share of GRE?

Question 35

Suppose you plan to hold Von Bora stock for only one year. Calculate your total return from holding Von Bora stock for the first year.

Question 36

Which of the following statements is FALSE?

A)We must discount the cash flows from stock based on the equity cost of capital for the stock.
B)The divided yield is the percentage return the investor expects to earn from the dividend paid by the stock.
C)The firm might pay out cash to its shareholders in the form of a dividend.
D)The dividend yield is the expected annual dividend of a stock, divided by its expected future sale price.

Question 37

Use the information for the question(s)below.
Von Bora Corporation is expected pay a dividend of $1.40 per share at the end of this year and a $1.50 per share at the end of the second year. You expect Von Bora's stock price to be $25.00 at the end of two years. Von Bora's equity cost of capital is 10%.
Suppose you plan on purchasing Von Bora stock in one year, right after the $1.40 dividend is paid. You then plan on selling your stock at the end of year two, right after the $1.50 dividend is paid. The total return that you will receive on your investment is closest to:

A)9.50%
B)10.75%
C)10.25%
D)10.00%

Question 38

MJ LTD is expected to grow at various rates over the next five years. The company just paid a $1.00 dividend. The company expects to grow at 20% for the next two years (effecting D1 and D2), then the company expects to grow at 10% for three additional years (D3, D4, D5)after which the company expects to grow at a constant rate of 5% per year indefinitely. If the required rate of return on MJ's common stock is 12%, then what is a share of MJ's stock worth?

Question 39

Which of the following statements is FALSE?

A)Future dividend payments and stock prices are not known with certainty; rather these values are based on the investor's expectations at the time the stock is purchased.
B)The capital gain is the difference between the expected sale price and the purchase price of the stock.
C)The sum of the dividend yield and the capital gain rate is called the total return of the stock.
D)We divide the capital gain by the expected future stock price to calculate the capital gain rate.

Question 40

Which of the following statements is FALSE?

A)An investor will be willing to pay up to the point at which the current price of a share of stock equals the present value of the expected future dividends an expected future sale price.
B)The expected total return of a stock should equal the expected return of other investments available in the market with equivalent risk.
C)The total amount received in dividends and from selling the stock will depend on the investor's investment horizon.
D)If the current stock price were greater than P₀ = , it would be a positive NPV investment, and we would expect investors to rush in and buy it, driving up the stocks price.

Question 41

Wyatt oil presently pays no dividend. You anticipate Wyatt Oil will pay an annual dividend of $0.56 per share two years from today and you expect dividends to grow by 4% per year thereafter. In Wyatt Oil's equity cost of capital is 12%, then the value of a share of Wyatt oil today is:

A)$4.67
B)$5.00
C)$6.25
D)$7.00

Question 42

Which of the following statements is FALSE?

A)The total payout model allows us to ignore the firm's choice between dividends and share repurchases.
B)By repurchasing shares, the firm increases its share count, which decreases its earning and dividends on a per-share basis.
C)The total payout model discounts the total payouts that the firm makes to shareholders, which is the total amount spent on both dividends and share repurchases.
D)In the dividend discount model we implicitly assume that any cash paid out to the shareholders takes the form of a dividend.

Question 43

Use the following information to answer the question(s)below.
Wyatt Oil, an all-equity financed firm, has just reported EPS of $4.00 per share. Despite an economic downturn, Wyatt is confident regarding its current investment opportunities, but due to the current financial crisis, Wyatt does not wish to fund these investments externally. Wyatt's board has therefore decided to suspend its stock repurchase plan and cut its dividend to $1 per share (from its current level of $2 per share)and retain these funds instead. The firm just paid its current dividend of $1.00 per share and expects to keep its dividend at $1 per share next year as well. In subsequent years, it expects its growth opportunities to slow, and it will still be able to fund its growth internally with a target 40% dividend payout ratio, and reinitiating its stock repurchase plan for a total payout rate of 60%. All dividends and repurchases occur at the end of each year.
Wyatt's existing operations are expected to generate the current level of earnings per share in the future. Assume that the return on new investments is 16% and that reinvestments will account for all future earnings growth. Wyatt's current equity cost of capital is 12%.
Wyatt's expected EPS in two years is closest to:

A)$4.48
B)$4.64
C)$5.04
D)$5.38

Question 44

If you want to value a firm that consistently pays out its earnings as dividends, the simplest model for you to use is the:

A)enterprise value model.
B)total payout model.
C)dividend discount model.
D)discounted free cash flow model.

Question 45

If you want to value a firm but don't want to explicitly forecast its dividends, share repurchases, or its use of debt, what is the simplest model for you to use?

A)Discounted free cash flow model
B)Dividend discount model
C)Enterprise value model
D)Total payout model

Question 46

Which of the following statements is FALSE?

A)The firm's weighted average cost of capital (WACC)denoted r_wacc is the cost of capital that reflects the risk of the overall business, which is the combined risk of the firm's equity and debt.
B)Intuitively, the difference between the discounted free cash flow model and the dividend-discount model is that in the divided-discount model the firm's cash and debt are included indirectly through the effect of interest income and expenses on earnings in the dividend-discount model.
C)We interpret r_wacc as the expected return the firm must pay to investors to compensate them for the risk of holding the firm's debt and equity together.
D)When using the discounted free cash flow model we should use the firm's equity cost of capital.

Question 47

Use the following information to answer the question(s)below.
Taggart Transcontinental pays no dividends, but spent $4 billion on share repurchases last year. Taggart's equity cost of capital is 13% and if the amount spent on repurchases is expected to grow by 5% per year. Taggart currently has 2 billion shares outstanding.
Taggart's market capitalization is closest to:

A)$25 billion
B)$31 billion
C)$40 billion
D)$50 billion

Question 48

Use the following information to answer the question(s)below.
Taggart Transcontinental pays no dividends, but spent $4 billion on share repurchases last year. Taggart's equity cost of capital is 13% and if the amount spent on repurchases is expected to grow by 5% per year. Taggart currently has 2 billion shares outstanding.
Taggart's stock price is closest to:

A)$12.50
B)$15.40
C)$20.00
D)$25.00

Question 49

Use the following information to answer the question(s)below.
Wyatt Oil, an all-equity financed firm, has just reported EPS of $4.00 per share. Despite an economic downturn, Wyatt is confident regarding its current investment opportunities, but due to the current financial crisis, Wyatt does not wish to fund these investments externally. Wyatt's board has therefore decided to suspend its stock repurchase plan and cut its dividend to $1 per share (from its current level of $2 per share)and retain these funds instead. The firm just paid its current dividend of $1.00 per share and expects to keep its dividend at $1 per share next year as well. In subsequent years, it expects its growth opportunities to slow, and it will still be able to fund its growth internally with a target 40% dividend payout ratio, and reinitiating its stock repurchase plan for a total payout rate of 60%. All dividends and repurchases occur at the end of each year.
Wyatt's existing operations are expected to generate the current level of earnings per share in the future. Assume that the return on new investments is 16% and that reinvestments will account for all future earnings growth. Wyatt's current equity cost of capital is 12%.
Wyatt's current stock price is closest to:

A)$51.23
B)$54.00
C)$49.11
D)$61.38

Question 50

Which of the following statements is FALSE?

A)In a share repurchase, the firm uses excess cash to buy back its own stock.
B)The discounted free cash flow model begins by determining the value of the firm's equity.
C)The discounted free cash flow model focuses on the cash flows to all of the firm's investors, both debt and equity holders, and allows us to avoid estimating the impact of the firm's borrowing decisions on earnings.
D)In recent years an increasing number of firms have replaced dividend payouts with share repurchases.

Question 51

Use the information for the question(s)below.
You expect CCM Corporation to generate the following free cash flows over the next five years:
Following year five, you estimate that CCM's free cash flows will grow at 5% per year and that CCM's weighted average cost of capital is 13%.
The enterprise value of CCM corporation is closest to:

A)$396 million
B)$290 million
C)$382 million
D)$350 million

Question 52

If you want to value a firm that has consistent earnings grow, but varies how it pays out these earnings to shareholders between dividends and repurchases, the simplest model for you to use is the:

A)enterprise value model.
B)dividend discount model.
C)total payout model.
D)discounted free cash flow model.

Question 53

Which of the following statements is FALSE?

A)To estimate a firm's enterprise value, we compute the present value of the free cash flows (FCF)that the firm has available to pay equity holders.
B)The NPV of any individual project represents its contribution to the firm's enterprise value.
C)When using the total payout model, we discount total dividends and share repurchases, and use the growth rate in earnings when forecasting the growth of the firm's payout.
D)In the total payout model, we first value the firm's equity, rather than just a single share.

Question 54

Which of the following statements is FALSE?

A)The more cash the firm uses to repurchase shares, the less it has available to pay dividends.
B)Free cash flow measures the cash generated by the firm after payments to debt or equity holders are considered.
C)We estimate a firm's current enterprise value by computing the present value of the firm's free cash flow.
D)We can interpret the enterprise value as the net cost of acquiring the firm's equity, taking its cash and paying off all debts.

Question 55

Which of the following statements is FALSE?

A)The long-run growth rate g_FCF is typically based on the expected long-run growth rate of the firm's revenues.
B)Because the firm's free cash flow is equal to the sum of the free cash flows from the firm's current and future investments, we can interpret the firm's enterprise value as the total NPV that the firm will earn from continuing its existing projects and initiating new ones.
C)If the firm has no debt then r_wacc = the risk-free rate of return.
D)When using the discounted free cash flow model, we forecast the firm's free cash flow up to some horizon, together with some terminal (continuation)value of the enterprise.

Question 56

Rearden Metals expects to have earnings this coming year of $2.50 per share. Rearden plans to retain all of its earnings for the next year. For the subsequent three years, the firm will retain 50% of its earnings. It will ten retain 25% of its earnings from that point onward. Each year, retained earnings will be invested in new projects with an expected return of 20% per year. Any earnings that are not retained will be paid out as dividends. Assume Rearden's shares outstanding remains constant and all earnings growth comes from the investment of retained earnings. If Rearden's equity cost of capital is 10%, then Rearden's stock price is closest to:

A)$40.80
B)$44.60
C)$59.80
D)$63.50

Question 57

Use the following information to answer the question(s)below.
Wyatt Oil, an all-equity financed firm, has just reported EPS of $4.00 per share. Despite an economic downturn, Wyatt is confident regarding its current investment opportunities, but due to the current financial crisis, Wyatt does not wish to fund these investments externally. Wyatt's board has therefore decided to suspend its stock repurchase plan and cut its dividend to $1 per share (from its current level of $2 per share)and retain these funds instead. The firm just paid its current dividend of $1.00 per share and expects to keep its dividend at $1 per share next year as well. In subsequent years, it expects its growth opportunities to slow, and it will still be able to fund its growth internally with a target 40% dividend payout ratio, and reinitiating its stock repurchase plan for a total payout rate of 60%. All dividends and repurchases occur at the end of each year.
Wyatt's existing operations are expected to generate the current level of earnings per share in the future. Assume that the return on new investments is 16% and that reinvestments will account for all future earnings growth. Wyatt's current equity cost of capital is 12%.
The Rufus Corporation has 125 million shares outstanding and analysts expect Rufus to have earnings of $500 million this year. Rufus plans to pay out 40% of its earnings in dividends and they expect to use another 20% of their earnings to repurchase shares. If Rufus' equity cost of capital is 15% and Rufus' earnings are expected to grow at a rate of 3% per year, then the value of a share of Rufus stock is closest to:

A)$13.35
B)$33.50
C)$20.00
D)$16.00

Question 58

Which of the following equations is INCORRECT?

A)P₀ =
B)V₀ = +
+ ... +
+

C)Free Cash Flow = EBIT × (1 - τ_c)+ Depreciation - Capital Expenditures - DNWC
D)Enterprise Value = Market Value of Equity + Debt - Cash

Question 59

Taggart Transcontinental has a divided yield of 2.5%. Taggart's equity cost of capital is 10%, and its dividends are expected to grow at a constant rate. Based on this information, Taggart's constant growth rate in dividends is closest to:

A)2.5%
B)5.0%
C)10.0%
D)7.5%

Question 60

Kinston Industries just announced that it will cut its dividend from $3.00 to $2.00 per share and use the extra funds to expand its operations. Kinston's dividends were expected to grow at a 2% rate, and its share price was $37.50. With the new expansion, Kinston dividends are expected to grow at a 5% rate. Kinston's share price following this announcement should be:

A)$20.00
B)$30.00
C)$37.50
D)$40.00

Question 61

Use the information for the question(s)below.
You expect DM Corporation to generate the following free cash flows over the next five years:
Beginning with year six, you estimate that DM's free cash flows will grow at 6% per year and that DM's weighted average cost of capital is 15%.
Which of the following statements is FALSE?

A)The fact that a firm has an exceptional management team, has developed an efficient manufacturing process, or has just secured a patient on a new technology is ignored when we apply a valuation multiple.
B)Valuation multiples have the advantage that they allow us to incorporate specific information about the firm's cost of capital or future growth.
C)For firms with substantial tangible assets, the ratio of price to book value of equity per share is sometimes used.
D)Using multiples will not help us determine if an entire industry is overvalued.

Question 62

Use the information for the question(s)below.
You expect DM Corporation to generate the following free cash flows over the next five years:
Beginning with year six, you estimate that DM's free cash flows will grow at 6% per year and that DM's weighted average cost of capital is 15%.
Which of the following statements is FALSE?

A)Because capital expenditures can vary substantially from period to period, most practitioners rely on enterprise value to free cash flow multiples.
B)Common multiples to consider are enterprise value to EBIT, EBITDA, and free cash flow.
C)If two stocks have the same payout and EPS growth rates as well as equivalent risk, then they should have the same P/E ratio.
D)Looking at enterprise value as a multiple of sales can be useful if it is reasonable to assume that the firms will maintain similar margins in the future.

Question 63

Use the following information to answer the question(s)below.

Assuming that Novartis AG (NVS)has an EPS of $3.35, based upon the average P/E ratio for its competitors, Novartis' stock price is closest to:

A)$13.00
B)$31.86
C)$43.47
D)$44.35

Question 64

Use the information for the question(s)below.
You expect DM Corporation to generate the following free cash flows over the next five years:
Beginning with year six, you estimate that DM's free cash flows will grow at 6% per year and that DM's weighted average cost of capital is 15%.
Which of the following statements is FALSE?

A)The most common valuation multiple is the price-earnings (P/E)ratio.
B)You should be willing to pay proportionally more for a stock with lower current earnings.
C)A firm's P/E ratio is equal to the share price divided by its earnings per share.
D)The intuition behind the use of the P/E ratio is that when you buy a stock, you are in sense buying the rights to the firm's future earnings and differences in the scale of firms' earnings are likely to persist.

Question 65

Use the following information to answer the question(s)below.

Assuming that Novartis AG (NVS)has an EPS of $3.35, based upon the price-to-book ratios for its competitors, the lowest expected stock price for Novartis is closest to:

A)$7.47
B)$13.00
C)$22.95
D)$31.86

Question 66

Use the information for the question(s)below.
You expect DM Corporation to generate the following free cash flows over the next five years:
Beginning with year six, you estimate that DM's free cash flows will grow at 6% per year and that DM's weighted average cost of capital is 15%.
Calculate the enterprise value for DM Corporation.

Question 67

Use the information for the question(s)below.
You expect CCM Corporation to generate the following free cash flows over the next five years:
Following year five, you estimate that CCM's free cash flows will grow at 5% per year and that CCM's weighted average cost of capital is 13%.
If CCM has $150 million of debt and 12 million shares of stock outstanding, then the share price for CCM is closest to:

A)$49.50
B)$11.25
C)$20.50
D)$22.75

Question 68

Use the following information to answer the question(s)below.

Assuming that Novartis AG (NVS)has an EPS of $3.35, based upon the average price-to-book ratio for its competitors, Novartis' stock price is closest to:

A)$13.00
B)$22.95
C)$39.70
D)$44.35

Question 69

Use the information for the question(s)below.
You expect DM Corporation to generate the following free cash flows over the next five years:
Beginning with year six, you estimate that DM's free cash flows will grow at 6% per year and that DM's weighted average cost of capital is 15%.
Which of the following statements is FALSE?

A)We can estimate the value of a firm's shares by multiplying its current earnings per share by the average P/E ratio of comparable firms.
B)For valuation purposes, the trailing P/E ratio is generally preferred, since it is based on actual not expected earnings.
C)Forward earnings are the expected earnings over the coming 12 months.
D)Trailing earnings are the earnings over the previous 12 months.

Question 70

Use the following information to answer the question(s)below.

You expect Whirlpool Corporation (WHR)to have earnings per share of $6.10 over the coming year. If the average P/E ratio for the appliance industry sector is 17.0, the value of a share of Whirlpool stock based upon the comparables approach is closest to:

A)$103.70
B)$27.90
C)$35.90
D)$23.10

Question 71

Use the information for the question(s)below.
Defenestration Industries plans to pay a $4.00 dividend this year and you expect that the firm's earnings are on track to grow at 5% per year for the foreseeable future. Defenestration's equity cost of capital is 13%.
A firm's net investment is:

A)its capital expenditures in excess of depreciation.
B)its free cash flow net of increases in working capital.
C)its enterprise value in excess of debt owed.
D)the market value of equity plus debt.

Question 72

Use the information for the question(s)below.
You expect DM Corporation to generate the following free cash flows over the next five years:
Beginning with year six, you estimate that DM's free cash flows will grow at 6% per year and that DM's weighted average cost of capital is 15%.
If DM has $500 million of debt and 14 million shares of stock outstanding, then what is the price per share for DM Corporation?

Question 73

Which of the following formulas is INCORRECT?

A)Forward =

B)Forward =

C) =

D)Forward =

Question 74

Use the information for the question(s)below.
You expect CCM Corporation to generate the following free cash flows over the next five years:
Following year five, you estimate that CCM's free cash flows will grow at 5% per year and that CCM's weighted average cost of capital is 13%.
If CCM has $200 million of debt and 8 million shares of stock outstanding, then the share price for CCM is closest to:

A)$49.50
B)$12.50
C)$19.35
D)$24.50

Question 75

Use the information for the question(s)below.
You expect DM Corporation to generate the following free cash flows over the next five years:
Beginning with year six, you estimate that DM's free cash flows will grow at 6% per year and that DM's weighted average cost of capital is 15%.
Which of the following statements is FALSE?

A)Because the enterprise value represents the entire value of the firm before the firm pays its debt, to form an appropriate multiple, we divide it by a measure of earnings or cash flows after interest payments are made.
B)We can compute a firm's P/E ratio by using either trailing earnings or forward earnings with the resulting ratio called the trailing P/E or forward P/E.
C)It is common practice to use valuation multiples based on the firm's enterprise value.
D)Using a valuation multiple based on comparables is best viewed as a "shortcut" to the discounted cash flow method of valuation.

Question 76

Use the information for the question(s)below.
Defenestration Industries plans to pay a $4.00 dividend this year and you expect that the firm's earnings are on track to grow at 5% per year for the foreseeable future. Defenestration's equity cost of capital is 13%.
Assuming that Defenestration's dividend payout rate and expected growth rate remain constant, and Defenestration does not issue or repurchase shares, then Defenestration's stock price is closest to:

A)$50.00
B)$32.30
C)$22.25
D)$30.75

Question 77

Use the information for the question(s)below.
You expect DM Corporation to generate the following free cash flows over the next five years:
Beginning with year six, you estimate that DM's free cash flows will grow at 6% per year and that DM's weighted average cost of capital is 15%.
Which of the following statements is FALSE?

A)Even two firms in the same industry selling the same types of products, while similar in many respects, are likely to be of different size or scale.
B)In the method of comparables we estimate the value of the firm based on the value of other, comparable firms or investments that we expect will generate very similar cash flows in the future.
C)Consider the case of a new firm that is identical to an existing publicly traded company. If these firms will generate identical cash flows, the Law of One Price implies that we can use the value of the existing company to determine the value of the new firm.
D)A valuation multiple is a ratio of some measure of the firm's scale to the value of the firm.

Question 78

Use the information for the question(s)below.
Defenestration Industries plans to pay a $4.00 dividend this year and you expect that the firm's earnings are on track to grow at 5% per year for the foreseeable future. Defenestration's equity cost of capital is 13%.
Suppose that Defenestration decides to pay a dividend of only $2 per share this year and use the remaining $2 per share to repurchase stock. If Defenestration maintains this dividend and total payout rate, then the rate at which Defenestration's dividends and earnings per share are expected to grow is closest to:

A)7%
B)13%
C)9%
D)5%

Question 79

Use the following information to answer the question(s)below.

Assuming that Novartis AG (NVS)has an EPS of $3.35, based upon the P/E ratios for its competitors, the highest expected stock price for Novartis is closest to:

A)$31.86
B)$44.35
C)$51.09
D)$62.60

Question 80

Use the information for the question(s)below.
Defenestration Industries plans to pay a $4.00 dividend this year and you expect that the firm's earnings are on track to grow at 5% per year for the foreseeable future. Defenestration's equity cost of capital is 13%.
Suppose that Defenestration decides to pay a dividend of only $2 per share this year and use the remaining $2 per share to repurchase stock. If Defenestration's payout rate remains constant, then Defenestration's stock price is closest to:

A)$50.00
B)$22.25
C)$32.30
D)$30.75