Class Assignment

Financial Management
BBA-VII

Question # 01:
You are considering an investment in the common stock of Shezad Corp. The stock is expected to pay a
dividend of Rs.3.5 a share at the end of the year. The stock has a beta equal to 1.2. The risk-free rate is 6
percent, and the market risk premium is 8 percent. The stock’s dividend is expected to grow at some
constant rate g. The stock currently sells for Rs.28.5 a share. Assuming the market is in equilibrium, what
does the market believe will be the stock price at the end of 4 years?

Question # 02:
A company currently pays a dividend of Rs.4 per share, it is estimated that the company’s dividend will
grow at a rate of 16 percent for the first year 17.5 percent for the 2 nd year and then the dividend will
grow at a constant rate of 8 percent thereafter. The company’s stock has a beta equal to 1.4, the risk-
free rate is 8 percent, and the market risk premium is 6 percent. What would you esti mate is the stock’s
current price?

Question # 03:
Behzad Company’s current stock price is Rs.40, and its last dividend was Rs.3.20. In view of Behzad’s
strong financial position and its consequent low risk, its required rate of return is only 13.5 per cent. If
dividends are expected to grow at a constant rate, g, in the future, and if K s, is expected to remain at 13
percent, what is Behzad’s expected stock price 5 years from now?

Question # 04:
Fizza Computer Chips Inc. is experiencing a period of rapid growth. Earnings and dividends are expected
to grow at a rate of 16 percent during the next 2 years, at 14.5 percent in the third year, and at a
constant rate of 7 percent thereafter. Fizza’s last dividend was Rs.1.15, and the required rate of return
on the stock is 12 percent.
a) Calculate the value of the stock today.
b) Calculate P1 and P2.
c) Calculate the dividend yield and capital gains yield for Years 1, 2, and 3.

Question # 05:
BB & Co. has the following capital structure, which it considers be optimal:
Debt 25%
Preferred stock 15
Common stock 60
Total Capital 100%
BB’s tax rate is 40 percent and investors expect earnings and dividends to grow at a constant rate of 9
percent in the future. BB paid a dividend of $3.60 per share last year (D 0), and its stock currently sells at
a price of $60 per share. Treasury bonds yield 11 percent; an average stock has a 14 percent expected
rate of return; and LCI’s beta is 1.51. These terms would apply to new security offerings:
Preferred: New preferred could be sold to the public at a price of $100 per share, with a divi dend
of $11. Flotation costs of $5 per share would be incurred.
Debt: Debt could be sold at an interest rate of 12 percent.
a) Find the component costs of debt, preferred stock, and common stock. Assume LCI does not have to
issue any additional shares of common stock.
b) What is the WACC?
Question # 06:
The earnings, dividends, and stock price of Sana Technologies Inc. are expected to grow at 7 percent per
year in the future. Sana’s common stock sells for $23 per share, its last dividend was $2.00, and the
company will pay a dividend of $2.14 at the end of the current year.
a) Using the discounted cash flow approach, what is its cost of equity?
b) If the firm’s beta is 1.6, the risk-free rate is 9 percent, and the expected return on the market is 13
percent, what will be the firm’s cost of equity using the CAPM approach?
c) If the firm’s bonds earn a return of 12 percent, what will ks be using the bond-yield-plus-risk-premium
approach? (Hint: Use the midpoint of the risk premium range).
d) On the basis of the results of parts a through c, what would you estimate Sana’s cost of equity to be?