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Exam 7: Corporate Valuation and Stock Valuation

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Question 31

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From an investor's perspective,a firm's preferred stock is generally considered to be less risky than its common stock but more risky than its bonds.However,from a corporate issuer's standpoint,these risk relationships are reversed: Bonds are the most risky for the firm,preferred is next,and common is least risky.

A) True
B) False

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Question 32

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Stocks A and B have the same price and are in equilibrium,but Stock A has the higher required rate of return.Which of the following statements is CORRECT?

A) Stock B must have a higher dividend yield than Stock A.
B) Stock A must have a higher dividend yield than Stock B.
C) If Stock A has a higher dividend yield than Stock B,its expected capital gains yield must be lower than Stock B's.
D) Stock A must have both a higher dividend yield and a higher capital gains yield than Stock B.
E) If Stock A has a lower dividend yield than Stock B,its expected capital gains yield must be higher than Stock B's.

F) A) and B)
G) A) and E)

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Question 33

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Franklin Corporation is expected to pay a dividend of $1.25 per share at the end of the year (D₁ = $1.25) .The stock sells for $32.50 per share,and its required rate of return is 10.5%.The dividend is expected to grow at some constant rate,g,forever.What is the equilibrium expected growth rate?

Classified stock differentiates various classes of common stock,and using it is one way companies can meet special needs such as when owners of a start-up firm need additional equity capital but don't want to relinquish voting control.

Preferred stock is a hybrid⎯a sort of cross between a common stock and a bond⎯in the sense that it pays dividends that normally increase annually like a stock but its payments are contractually guaranteed like interest on a bond.

If D₀ = $2.25,g (which is constant) = 3.5%,and P₀ = $50,what is the stock's expected dividend yield for the coming year?

If a company's free cash flows are expected to grow at a constant rate of 5% a year,which of the following statements is CORRECT? The stock is in equilibrium.

Lance Inc.'s free cash flow was just $1.00 million.If the expected long-run growth rate for this company is 5.4%,if the weighted average cost of capital is 11.4%,Lance has $4 million in short-term investments and $3 million in debt,and 1 million shares outstanding,what is the intrinsic stock price?

Founders' shares are a type of classified stock where the shares are owned by the firm's founders,and they generally have more votes per share than the other classes of common stock.

Atchley Corporation's last free cash flow was $1.55 million.The free cash flow growth rate is expected to be constant at 1.5% for 2 years,after which free cash flows are expected to grow at a rate of 8.0% forever.The firm's weighted average cost of capital (WACC) is 12.0%.Atchley has $2 million in short-term debt and $14 million in debt and 1 million shares outstanding.What is the best estimate of the intrinsic stock price?

The preemptive right is important to shareholders because it

A company's free cash flow was just FCF₀ = $1.50 million.The weighted average cost of capital is WACC = 10.1%,and the constant growth rate is g = 4.0%.What is the current value of operations?

Based on the free cash flow valuation model,Bizzaro Co.'s value of operations is $300 million.The balance sheet shows $20 million of short-term investments that are unrelated to operations,$50 million of accounts payable,$90 million of notes payable,$30 million of long-term debt,$40 million of preferred stock,and $100 million of common equity.Bizzaro has 10 million shares of stock outstanding.What is the best estimate of the stock's price per share?

Judd Corporation has a weighted average cost of capital of 10.25%,and its value of operations is $57.50 million.Free cash flow is expected to grow at a constant rate of 6.00% per year.What is the expected year-end free cash flow,FCF₁ in millions?

The cash flows associated with common stock are more difficult to estimate than those related to bonds because stock has a residual claim against the company versus a contractual obligation for a bond.

The last dividend paid by Coppard Inc.was $1.25.The dividend growth rate is expected to be constant at 15% for 3 years,after which dividends are expected to grow at a rate of 6% forever.If the firm's required return (r_s) is 11%,what is its current stock price?

Gere Furniture forecasts a free cash flow of $40 million in Year 3,i.e. ,at t = 3,and it expects FCF to grow at a constant rate of 5% thereafter.If the weighted average cost of capital is 10% and the cost of equity is 15%,what is the horizon value,in millions at t = 3?

Julia Saunders is your boss and the treasurer of Foster Carter Enterprises (FCE) .She asked you to help her estimate the intrinsic value of the company's stock.FCE just paid a dividend of $1.00,and the stock now sells for $15.00 per share.Julia asked a number of security analysts what they believe FCE's future dividends will be,based on their analysis of the company.The consensus is that the dividend will be increased by 10% during Years 1 to 3,and it will be increased at a rate of 5% per year in Year 4 and thereafter.Julia asked you to use that information to estimate the required rate of return on the stock,r_s,and she provided you with the following template for use in the analysis: Julia told you that the growth rates in the template were just put in as a trial,and that you must replace them with the analysts' forecasted rates to get the correct forecasted dividends and then the estimated TV.She also notes that the estimated value for r_s, at the top of the template,is also just a guess,and you must replace it with a value that will cause the Calculated Price shown at the bottom to equal the Actual Market Price.She suggests that,after you have put in the correct dividends,you can manually calculate the price,using a series of guesses as to the Estimated r_s.The value of r_s that causes the calculated price to equal the actual price is the correct one.She notes,though,that this trial-and-error process would be quite tedious,and that the correct r_s could be found much faster with a simple Excel model,especially if you use Goal Seek.What is the value of r_s?

According to the nonconstant growth model discussed in the textbook,the discount rate used to find the present value of the expected cash flows during the initial growth period is the same as the discount rate used to find the PVs of cash flows during the subsequent constant growth period.

According to the basic FCF stock valuation model,the value an investor should assign to a share of stock is dependent on the length of time he or she plans to hold the stock.