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UNIVERSITI TUNKU ABDUL RAHMAN

FACULTY OF BUSINESS AND FINANCE


UBFF3283 PORTFOLIO MANAGEMENT
TUTORIAL 8
1.

Consider the following information about Truly Good Coffee, Inc.


Total assets
Total debt
Preferred stock
Common stockholders' equity
Net profits after taxes
Number of preferred stock outstanding
Number of common stock outstanding
Preferred dividends paid
Common dividends paid
Market price of the preferred stock
Market price of the common stock

$240 million
$115 million
$25 million
$100 million
$22.5 million
1 million shares
10 million shares
$2/share
$0.75/share
$30.75/share
$25.00/share

Use the information above to find the following.


a.
b.
c.
d.
e.
f.

The company's book value.


Its book value per share.
The stock's earnings per share (EPS).
The dividend payout ratio.
The dividend yield on the common stock.
The dividend yield on the preferred stock.

2.

Describe the general concept of economic analysis. Is this type of analysis


necessary, and can it really help the individual investor make a decision about
a stock? Explain.

3.

What is industry analysis, and why is it important?

UBFF3283 PORTFOLIO MANAGEMENT


Case Problem I:
Wally Wonders Whether Theres a Place for Dividends
Wally Wilson is a commercial artist who makes a good living by doing freelance
work-mostly layouts and illustrations-for local ad agencies and major institutional
clients (such as large department stores). Wally has been investing in the stock
market for some time, buying mostly high-quality growth stocks as a way to achieve
long-term growth and capital appreciation. He feels that with the limited time he has
to devote to his security holdings, high-quality issues are his best bet. He has
become a bit perplexed lately with the market, disturbed that some of his growth
stocks aren't doing even as well as many good-grade income shares. He therefore
decides to have a chat with his broker, Al Fried.
During the course of their conversation, it becomes clear that both Al and Wally are
thinking along the same lines. Al points out that dividend yields on income shares
are indeed way up and that, because of the state of the economy, the outlook for
growth stocks is not particularly bright. He suggests that Wally seriously consider
putting some of his money into income shares to capture the high dividend yields
that are available. After all, as Al says, "the bottom line is not so much where the
payoff comes from as how much it amounts to!" They then talk about a high-yield
public utility stock, Hydro-Electric Light and Power. Al digs up some forecast
information about Hydro-Electric and presents it to Wally for his consideration:

Year
2007
2008
2009
2010
2011

Expected
EPS
$3.25
3.40
3.90
4.40
5.00

Expected Dividend
Payout Ratio
40%
40
45
45
45

The stock currently trades at $60 per share. Al thinks that within 5 years it should be
trading at around $75 to $80 a share. Wally realizes that to buy the Hydro-Electric
stock, he will have to sell his holdings of CapCo Industries - a highly regarded
growth stock that Wally is disenchanted with because of recent substandard
performance.
Questions:
a. How would you describe Wally's present investment program? How do you think
it fits him and his investment objectives?
b. Consider the Hydro-Electric stock.
1. Determine the amount of annual dividends Hydro-Electric can be expected to
pay over the years 2007 to 2011.
2. Compute the total dollar return that Wally will make from Hydro-Electric if he
invests $6,000 in the stock and all the dividend and price expectations are
realized.
2

UBFF3283 PORTFOLIO MANAGEMENT


Case Problem II:
Some Financial Ratios Are Real Eye-Openers
Jack Arnold is a resident of Lubbock, Texas, where he is a prosperous rancher and
businessman. He has also built up a sizable portfolio of common stock, which, he
believes, is due to the fact that he thoroughly evaluates each stock he invests in. As
Jack says, "Y'all can't be too careful about these things! Anytime I'm fixin to invest
in a stock, you can bet I'm gonna learn as much as I can about the company." Jack
prefers to compute his own ratios even though he could easily obtain analytical
reports from his broker at no cost. (In fact, Billy Bob Smith, his broker, has been
volunteering such services for years.) Recently, Jack has been keeping an eye on a
small chemical stock. The firm, South Plains Chemical Company, is big in the
fertilizer business-which is something Jack knows a lot about. Not long ago, he
received a copy of the firm's latest financial statements (summarized here) and
decided to take a closer look at the company.
South Plains Chemical Company Balance Sheet ($ Thousands)
__________________________________________________________________
Cash
$ 1,250
Accounts receivable
8,000
Current liabilities
$ 10,000
Inventory
12,000
Long-term debt
8,000
Current assets
21,250
Stockholders' equity
12,000
Fixed and other assets
8,750
Total liabilities and
Total assets
$30,000
stockholders' equity $ 30,000

Income Statement ($ Thousands)


_________________________________________________________
Sales
$50,000
Cost of goods sold
25,000
Operating expenses
15,000
Operating profit
10,000
Interest expense
2,500
Taxes
2,500
Net profit
$ 5,000
Dividends paid to common stockholders ($ in thousands) $1,250
Number of common shares outstanding
5 million
Recent market price of the common stock
$25

UBFF3283 PORTFOLIO MANAGEMENT


Questions
1. Compute the following ratios, using the South Plains Chemical Company figures.

Liquidity
a. Net working capital
b. Current ratio

Latest Industry
Averages
Profitability
N/A
h. Net profit margin
1.95
i. ROA
j. ROE

Activity
c. Receivables turnover
d. Inventory turnover
e. Total asset turnover

5.95
4.50
2.65

Leverage
f. Debt-equity ratio
g. Times interest earned

0.45
6.75

Latest Industry
Averages

Common Stock Ratios


k. Earnings per share
l. Price/earnings ratio
m. Dividends per share
n. Dividend yield
o. Payout ratio
p. Book value per share
q. Price-to-book-value ratio

8.5%
22.5%
32.2%

$2.00
20.0
$1.00
2.5%
50.0%
$6.25
6.4

1. Compare the company ratios you prepared to the industry figures given in part a.
What are the company's strengths? What are its weaknesses?
2. What is your overall assessment of South Plains Chemical? Do you think Jack
should continue with his evaluation of the stock? Explain.

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