The stock of Nogro Corporation is currently selling for $30 per share. Earnings

Question

The stock of Nogro Corporation is currently selling for $30 per share. Earnings per share in the coming year are expected to be $6. The company has a policy of paying out 50% of its earnings each year in dividends. The rest is retained and invested in projects that earn a 20% rate of return per year. This situation is expected to continue indefinitely.

a.

Assuming the current market price of the stock reflects its intrinsic value as computed using the constant-growth DDM, what rate of return do Nogro’s investors require? (Do not round intermediate calculations.)

  Rate of return

%

b.

By how much does its value exceed what it would be if all earnings were paid as dividends and nothing were reinvested?

  PVGO

$

The stock of Nogro Corporation is currently selling for $30 per share. Earnings per share in the coming year are expected to be $6. The company has a policy of paying out 50% of its earnings each year in dividends. The rest is retained and invested in projects that earn a 20% rate of return per year. This situation is expected to continue indefinitely.

Explanation / Answer

Growth rate = return*(1-dividend payout) = 20*(1-0.5) = 10%

Price = Next year EPS* (Dividend payout )/( required rate of return - growth rate)

30=6*0.5/(required rate of return -.1)

required rate of return = 20%

Price if all is paid out as dividend = EPS/required rate of return = 6/.2 = 30

PVGO = 30-30 = 0

Related Questions

Navigate

• Browse (All)
• Browse T
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.