Chapter 13 - Equity Valuation

CHAPTER 13
EQUITY VALUATION

17.
a.

P0

D1
kg

$80

b.

P0

$4
$4
g 0.14
0.09 9%

0.14 g
$80

D1
$4

$40
k g 0.14 0.04

The price falls in response to the more pessimistic forecast of dividend growth.
The forecast for current earnings, however, is unchanged. Therefore, the P/E
ratio decreases. The lower P/E ratio is evidence of the diminished optimism
concerning the firm's growth prospects.
18.
a. g = ROE b = 0.30 0.30 = 0.09 = 9%
D1 = $3(1 b) = $3(1 0.30) = $2.10
P0

D1
$2.10

$30.00
k g 0.16 0.09

P/E = $30/$3 = 10
b. PVGO = P0

E0
$3.00
$11.25
= $30
0.16
k

c. g = ROE b = 0.30 0.20 = 0.06 = 6%

D1 = $3(1 b) = $3(1 0.20) = $2.40
P0

D1
$2.40

$24.00
k g 0.16 0.06

P/E = $24/$3 = 8.0

PVGO = P0

E0
$3.00
= $24.00
= $5.25
0.16
k

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Chapter 13 - Equity Valuation

22. Nogro Corporation

a. D1 = 0.4 $5 = $2
g = b ROE = 0.6 0.20 = 0.12
Therefore:
k=

D1
$2
g
0.12 0.20 20.0%
P0
$25

b. Sincek=ROE,theNPVoffutureinvestmentopportunitiesiszero:
PVGO P0

E0
$25 $25 $0
k

c. Sincek=ROE,thestockpricewouldbeunaffectedifNogroweretocutits
dividendpayoutratioto25%.Theadditionalearningsthatwouldbereinvested
wouldearntheROE(20%).
Again,ifNogroeliminatedthedividend,thiswouldhavenoimpactonNogros
stockpricesincetheNPVoftheadditionalinvestmentswouldbezero.
23. Xyrong Corporation
a. k = rf + [E(rM) rf] = 6.5% + 2.7(13% 6.5%) = 24.05%
g = b ROE = 0.5 0.25 = 12.5%
V0

D0 (1 g )
$10 1.125

$93.75
kg
0.245 0.125

b. P1 = V1 = V0 (1 + g) = $93.75 1.125 = $105.47

E(r) =

D1 P1 P0
=
P0

$11.25 $105.47 $96

0.2158 21.58%
$96

13-2