Deck 9: Share Valuation

Question 1

The ASX is best described as a dealer market.

Answer 1

False

Question 2

Direct search is the least efficient type of secondary market.

Answer 2

True

Question 3

In terms of total volume of activity and total capitalisation of the companies listed, the NYSE is the largest in the world and NASDAQ is the second largest.

Answer 3

True

Question 4

Superannuation funds are the largest institutional investors in equities.

Question 5

A fully franked dividend means the investor is not required to pay income tax on the earnings.

Question 6

A dividend yield is the dividend payout divided by its price.

Question 7

The New York Stock Exchange is the best-known example of an auction market.

Question 8

Direct search markets provide the best price information.

Question 9

Legally, ordinary shareholders have unlimited liability.

Question 10

An active secondary market for debt or equity securities makes raising new capital less expensive for companies.

Question 11

Households are the largest investors in equity securities.

Question 12

For investors, the function of secondary markets is to provide marketability for the shares of securities they own at a fair price.

Question 13

A broker market eliminates the need for time-consuming search for a fair deal by buying and selling immediately from their inventory of securities.

Question 14

Owners of preference shares are not guaranteed any dividend payments and have the lowest-priority claim on the company's assets in the event of insolvency.

Question 15

In an auction market, buyers and sellers confront each other directly and bargain over price.

Question 16

For a commission fee less than the cost of direct search, dealers give investors an incentive to make use of the information by hiring them as brokers.

Question 17

The opening price of a share equals the closing price of the share the trading day before.

Question 18

Secondary market transactions in Australia mostly take place over the counter and not in exchanges.

Question 19

Equity securities are certificates of ownership of a company.

Question 20

Companies raise capital in secondary markets by issuing new securities.

Question 21

Valuation of ordinary and preference shares is done using a different valuation model than that used for bonds.

Question 22

Preference dividend payments are fixed obligations of the company, similar to the interest payments on corporate bonds.

Question 23

Failure to pay a preference dividend signals to the market that the company is in serious financial trouble.

Question 24

Direct search markets are characterised by:

A) complete price information.
B) extensive broker and dealer participation
C) private placement transactions and sale of ordinary shares of small private companies.
D) a high level of efficiency.

Question 25

Which one of the following statements is NOT true about secondary markets?

A) In terms of total volume of activity and total capitalisation of the companies listed, the ASX is the largest in the world and the NYSE is the second largest.
B) In terms of the number of companies listed and shares traded on a daily basis, the NYSE is larger than the ASX.
C) Companies listed on the NYSE tend to be, on average, larger in size and their shares trade more frequently than companies whose securities trade on ASX.
D) In Australia, most secondary equity market transactions take place on the ASX.

Question 26

Whenever the dividend growth rate exceeds the required rate of return, the constant-growth model provides invalid solutions.

Question 27

The bond valuation model can be used to value perpetual preference shares.

Question 28

The market considers preference shares to be a debt security because the dividend payment is a fixed financial obligation and has credit ratings like bonds.

Question 29

The constant-growth dividend model tells us that the current price of a share is the next period divided by the difference between the discount rate and the dividend growth rate.

Question 30

The constant-growth share has dividends growing at a constant rate over time.

Question 31

A fast growing company will pay constant dividends over time.

Question 32

The largest holders of equity securities are:

A) managed funds.
B) superannuation funds.
C) foreign investors.
D) households.

Question 33

Preference shares with no fixed maturity can be valued as a perpetuity.

Question 34

Which ONE of the following statements is true about secondary markets?

A) In secondary markets, outstanding shares are bought and sold among investors.
B) For an investor, the function of secondary markets is to provide profitability for the shares of securities they own.
C) An active secondary market causes companies to sell their new debt or equity issues at a higher cost of funds.
D) All of the above are true statements

Question 35

The value of a supernormal growth share is the present value of the mixed growth dividends and the present value of the constant-growth dividends.

Question 36

The least efficient of all the different types of secondary markets is the:

A) auction market.
B) direct search market.
C) dealer market.
D) brokered market.

Question 37

In the general dividend-valuation model, the price of a share of share is the present value of all expected future dividends.

Question 38

In comparison to the NASDAQ, the:

A) ASX has more companies listed.
B) daily share volume is higher on the ASX.
C) companies listed on the ASX tend to be smaller.
D) ASX operates as an 'open out-cry' market.

Question 39

For a company that has no growth, dividends stay constant over time.

Question 40

Which ONE of the following statements is true about secondary markets?

A) The ordinary shares of large companies often rely on word-of-count to find interested buyers.
B) Brokers bring buyers and sellers together to earn a fee.
C) The presence of active brokers increases market inefficiency.
D) A specialist is a specific location on the floor of a securities exchange at which auctions for a particular security take place.

Question 41

Which one of the following statements is NOT true about ordinary shares?

A) Ordinary shareholders have the right to vote on the selection of the board of directors for the company.
B) Ordinary shares are considered to have no fixed maturity.
C) Owners of ordinary shares are guaranteed dividend payments by the company.
D) Ordinary shareholders have limited liability.

Question 42

If a company has paid no tax on a dividend, the Australian Financial Review will note what next to the value?

A) the letter f.
B) the letter p.
C) the letter n.
D) none of the above.

Question 43

PV of dividends: Next year Jenkins Traders will pay a dividend of $3.00. It expects to increase its dividend by $0.25 in each of the following three years. If their required rate of return is 14 percent, what is the present value of their dividends over the next four years?

A) $13.50
B) $9.71
C) $12.50
D) $11.63

Question 44

Which one of the following statements is NOT true about zero-growth shares?

A) Dividend stays constant over time.
B) The cash flow pattern resembles a perpetuity with a constant cash flow.
C) Dividend payments are zero.
D) There is no growth in dividends over time.

Question 45

Which one of the following statements is NOT true about the general dividend valuation model?

A) The model does not assume any specific pattern for dividend growth.
B) It makes a specific assumption about when the share is going to be sold in the future.
C) The model calls for forecasting an infinite number of dividends for a share.
D) All of the above are true.

Question 46

Which one of the following statements is NOT true about auction markets?

A) In an auction market, buyers and sellers face each other directly and bargain over price.
B) The auction for a security can take place anywhere on the trading floor.
C) The New York Stock Exchange is the best-known example of an auction market.
D) Auctioneers can also act as dealers in the NYSE.

Question 47

Preference shares are sometimes regarded as a debt security because:

A) legally preference shares are a debt security.
B) preference share dividend payments like bond interest payments are considered fixed obligations for the company.
C) preference dividends are paid out of before-tax income just like interest payments on bonds.
D) preference shareholders receive a residual value and not a stated value.

Question 48

Which one of the following statements is NOT true about brokered markets?

A) Brokers bring buyers and sellers together to earn a fee, called a commission.
B) Brokers' extensive contacts provide them with a pool of price information that individual investors could not economically duplicate themselves.
C) Investors have an incentive to hire a broker because they charge a commission that is less than the cost of direct search.
D) Brokers can guarantee an order because they have an inventory of securities.

Question 49

Which ONE of the following statements is true about dealer markets?

A) Dealers do not place capital at risk.
B) A dealer market involves time-consuming search for a fair deal.
C) Dealers guarantee the sale or purchase of an order.
D) The NYSE is the best known example of a dealer market.

Question 50

Which one of the following statements is NOT true about preference shares?

A) Preference shares represent ownership in the company.
B) Owners of preference shares are not guaranteed dividend payments by the company.
C) Preference share dividends are fixed financial obligations to the company just like bond coupon payments.
D) Preference shareholders have limited voting privileges relative to ordinary share owners.

Question 51

Which ONE of the following statements is true about fast growth shares?

A) These are companies that grow their sales at above-average rates and are expected to do so for a length of time.
B) These are companies that grow their earnings at above-average rates and are expected to do so for a length of time.
C) They generally pay dividends during their fast growth phase.
D) All of the above.

Question 52

The constant-growth dividend model will provide invalid solutions when:

A) the growth rate of the share exceeds the required rate of return for the share.
B) the growth rate of the share is less than the required rate of return for the share.
C) the growth rate of the share equals the dividend yield for the share.
D) None of the above.

Question 53

The three simplifying assumptions that cover most share growth patterns are:

A) dividends that stay constant over time, dividends that grow at a constant rate, and dividends that are equal to zero.
B) dividends that have a zero-growth rate, dividends that grow at a varying rate, and dividends that are equal to zero.
C) dividends that stay constant over time, dividends that grow at a constant rate, and dividends that have a mixed growth pattern.
D) dividends that are equal to zero, dividends that grow at a constant rate, and dividends that have a mixed growth pattern.

Question 54

Which ONE of the following statements is NOT true about preference shares?

A) Preference share dividend payments are fixed obligations of the company, similar to the interest payments on corporate bonds.
B) Preference share dividends are paid from before-tax income just as the interest on bonds.
C) Preference shareholders have limited voting privileges relative to ordinary share owners.
D) While preference shares are legally classified as perpetuities, some issues do have a fixed maturity.

Question 55

In brokered markets:

A) the commission charged by brokers is a lower cost to buyers and sellers than the cost of direct search.
B) buyers and sellers are brought together for a transaction fee.
C) brokers build a pool of price information through their extensive contacts.
D) All of the above are true of broker markets.

Question 56

Which ONE of the following statements is true about ordinary shares?

A) Ordinary Shares are considered to have a fixed maturity.
B) Owners of ordinary shares are guaranteed dividend payment by the company.
C) Owners of ordinary shares have the lowest-priority claim on the company's assets in the event of insolvency.
D) Ordinary shareholders have unlimited liability.

Question 57

PV of dividends: TechWorld Ltd is expecting to pay out a dividend of $2.50 next year. After that it expects its dividend to grow at 7 percent for the next four years. What is the present value of dividends over the next five-year period if the required rate of return is 10 percent?

A) $10.75
B) $9.80
C) $11.88
D) $11.50

Question 58

Applying the valuation procedure to ordinary shares is more difficult than applying it to bonds because:

A) the size and timing of the dividend cash flows are less certain.
B) ordinary shares have no final maturity date.
C) the rate of return on ordinary shares is not directly observable.
D) All of the above are true.

Question 59

Dealer markets are characterised by:

A) no time-consuming search for a fair deal.
B) a guarantee of order fulfillment because the dealer holds an inventory of securities.
C) improved market efficiency because dealers provide continuous bid and ask prices for securities.
D) All of the above characterise dealer markets.

Question 60

PV of dividends: Harvey's Toymakers is introducing a new line of digital toys, which it expects to grow their earnings at a much faster rate than normal over the next three years. After paying a dividend of $2.00 last year, it does not expect to pay a dividend for the next three years. After that Harvey's plans to pay a dividend of $4.00 in year 4 and then increase the dividend at a rate of 10 percent in years 5 and 6. What is the present value of the dividends to be paid out over the next six years if the required rate of rate of return is 15 percent?

A) $13.24
B) $12.00
C) $6.57
D) $10.24

Question 61

Constant growth: You are interested in investing in a company that expects to grow steadily at an annual rate of 6 percent for the foreseeable future. The company paid a dividend of $2.30 last year. If your required rate of return is 10 percent, what is the most you would be willing to pay for this share? (Round to the nearest dollar.)

A) $58
B) $61
C) $23
D) $24

Question 62

Preference share: The preference share of Acme International is selling currently at $110.35. If your required rate of return is 9.75 percent, what is the dividend paid by this share?

A) $9.75
B) $11.32
C) $10.76
D) $8.53

Question 63

Constant growth: A company is growing at a constant rate of 8 percent. Last week it paid a dividend of $3.00. If the required rate of return is 15 percent, what is the price of the share three years from now?

A) $58.31
B) $46.29
C) $51.02
D) $42.83

Question 64

Constant growth: Priority Shift Ltd is expected to grow at a constant rate of 9 percent. If the company's next dividend is $2.75 and its current price is $37.35, what is the required rate of return on this share? (Round to the nearest percent.)

A) 16%
B) 17%
C) 20%
D) 21%

Question 65

Zero growth: Zephyr Electricals is a company with no growth potential. Its last dividend was $4.50, and it expects no change in future dividends. What is the current price of the company's share given a discount rate of 9 percent?

A) $40.50
B) $50.00
C) $45.00
D) $4.91

Question 66

Non-constant growth: Stag Company will pay dividends of $4.75, $5.25, $5.75, and $7 for the next four years. Thereafter, the company expects its growth rate to be at a constant rate of 7 percent. If the required rate of return is 15 percent, what is the current market price of the share?

A) $69.42
B) $93.63
C) $57.54
D) $80.29

Question 67

Constant growth: Johnson Company has just paid a dividend of $4.45. The company has forecasted a growth rate of 8 percent for the next several years. If the appropriate discount rate is 14 percent, what is the current price of this share? (Round to the nearest dollar.)

A) $74
B) $32
C) $80
D) $60

Question 68

Constant growth: Ryder Supplies has its share currently selling at $63.25. The company is expected to grow at a constant rate of 7 percent. If the appropriate discount rate is 17 percent, what is the expected dividend, a year from now?

A) $4.43
B) $3.25
C) $10.75
D) $6.33

Question 69

Non-constant growth: Starskeep Ltd is a fast growing technology company. The company projects a rapid growth of 40 percent for the next two years and then a growth rate of 20 percent for the following two years. After that, the company expects a constant-growth rate of 8 percent. The company expects to pay its first dividend of $1.25 a year from now. If your required rate of return on such shares is 20 percent, what is the current price of the share?

A) $15.63
B) $4.70
C) $30.30
D) $22.68

Question 70

Non-constant growth: BioSciTech Ltd a biotech company has forecast the following growth rates for the next three years: 30 percent, 25 percent, and 20 percent. The company then expects to grow at a constant rate of 7 percent for the next several years. The company paid a dividend of $2.00 last week. If the required rate of return is 16 percent, what is the market value of this share?

A) $51.03
B) $36.87
C) $56.12
D) $46.37

Question 71

PV of dividends: MineCast has not paid out any dividend in the last three years. It does not expect to pay dividends in the next two years either as it recovers from an economic slowdown. Three years from now it expects to pay a dividend of $2.50 and then $3.00 in the following two years. What is the present value of the dividends to be received over the next five years if the discount rate is 15 percent?

A) $4.85
B) $5.37
C) $5.50
D) $6.14

Question 72

Zero growth: Magnacar Limited Co. has a stable sales track record but does not expect to grow in the next several years. Its last annual dividend was $5.75. If the required rate of return on similar investments is 18 percent, what is the current share price?

A) $103.50
B) $13.50
C) $39.30
D) $31.94

Question 73

Zero growth: A communications company pays annual dividends of $8.50 with no possibility of it changing in the next several years. If the company's share is currently selling at $60.71, what is the required rate of return? (Round to nearest whole number.)

A) 14%
B) 16%
C) 13%
D) 15%

Question 74

Preference share valuation: Ajax Company has issued perpetual preference shares with a par of $100 and a dividend of 5.5 percent. If the required rate of return is 7.75 percent, what is the share's current market price?

A) $12.90
B) $70.97
C) $53.27
D) $62.14

Question 75

Non-constant growth: Denyer & Grant Ltd., is a fast growth share and expects to grow at a rate of 25 percent for the next four years. It then will settle to a constant-growth rate of 10 percent. The first dividend will be paid out in year 3 and will be equal to $5.00. If the required rate of return is 18 percent, what is the current price of the share?

A) $85.94
B) $97.19
C) $50.59
D) $65.68

Question 76

Zero growth: DirtBam Company sells household cleaners producing a revenue stream that has remained unchanged in the last few years. The company does not expect any change in its sales or earnings in the next several years. The share is currently selling at $46.88. If the required rate of return is 16 percent, what is the dividend paid by this company?

A) $2.93
B) $4.65
C) $6.89
D) $7.50

Question 77

Zero growth: BlackSteel Manufacturing Company has been generating stable revenues but sees no growth in it for the foreseeable future. The company's last dividend was $3.25, and it is unlikely to change the amount paid out. If the required rate of return is 12 percent, what is the share worth today?

A) $39.00
B) $3.69
C) $27.08
D) $21.23

Question 78

Non-constant growth: Mallard Ltd expects to pay no dividends for the next four years. It has projected a growth rate of 35 percent for the next four years. After four years, the company will grow at a constant rate of 6 percent. Its first dividend to be paid in year 5 will be worth $4.25. If your required rate of return is 20 percent, what is the share worth today?

A) $14.64
B) $32.18
C) $36.43
D) $21.82

Question 79

PV of dividends: Terry's Ltd is a fast growing technology company that paid a $1.25 dividend last week. The company's expected growth rates over the next four years are as follows: 25 percent, 30 percent 35 percent, and 30 percent. The company then expects to settle down to a constant-growth rate of 8 percent annually. If the required rate of return is 12 percent, what is the present value of the dividends over the fast growth phase?

A) $1.25
B) $6.46
C) $8.37
D) $7.24

Question 80

Preference share valuation: The National Bank of Columbia has issued perpetual preference shares with a $100 par value. The bank pays a quarterly dividend of $1.40 on this share. What is the current price of this preference share given a required rate of return of 8.5 percent?

A) $23.06
B) $65.88
C) $37.57
D) $43.25