1.

Assume Evco, Inc., has a current price of $50 and will pay a $2 dividend in one year, and its equity cost of capital is 15%. What price must you expect it to sell for right after paying the dividend in one year in order to justify its current price?

4.

Krell Industries has a share price of $22 today. If Krell is expected to pay a dividend of $0.88 this year, and its stock price is expected to grow to $23.54 at the end of the year, what is Krell’s dividend yield and equity cost of capital?

4.

Krell Industries has a share price of $22 today. If Krell is expected to pay a dividend of $0.88 this year, and its stock price is expected to grow to $23.54 at the end of the year, what is Krell’s dividend yield and equity cost of capital?

Applying the Dividend-Discount Model

5.

NoGrowth Corporation currently pays a dividend of $2 per year, and it will continue to pay this dividend forever. What is the price per share if its equity cost of capital is 15% per year?

6.

Summit Systems will pay a dividend of $1.50 this year. If you expect Summit’s dividend to grow by 6% per year, what is its price per share if its equity cost of capital is 11%?

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7.

Dorpac Corporation has a dividend yield of 1.5%. Dorpac’s equity cost of capital is 8%, and its dividends are expected to grow at a constant rate.

• a. What is the expected growth rate of Dorpac’s dividends?

• b. What is the expected growth rate of Dorpac’s share price?

12.

Procter & Gamble will pay an annual dividend of $0.65 one year from now. Analysts expect this dividend to grow at 12% per year thereafter until the fifth year. After then, growth will level off at 2% per year. According to the dividend-discount model, what is the value of a share of Procter & Gamble stock if the firm’s equity cost of capital is 8%?

19.

Heavy Metal Corporation is expected to generate the following free cash flows over the next five years:

Year 1 2 3 4 5

FCF ($ millions) 53 68 78 75 82

After then, the free cash flows are expected to grow at the industry average of 4% per year. Using the discounted free cash flow model and a weighted average cost of capital of 14%:

• a. Estimate the enterprise value of Heavy Metal.

• b. If Heavy Metal has no excess cash, debt of $300 million, and 40 million shares outstanding, estimate its share price.

1.

Suppose Pepsico’s stock has a beta of 0.57. If the risk-free rate is 3% and the expected return of the market portfolio is 8%, what is Pepsico’s equity cost of capital?

3.

Aluminum maker Alcoa has a beta of about 2.0, whereas Hormel Foods has a beta of 0.45. If the expected excess return of the marker portfolio is 5%, which of these firms has a higher equity cost of capital, and how much higher is it?

19.

Consider the setting of Problem 18. You decided to look for other comparables to reduce estimation error in your cost of capital estimate. You find a second firm, Thurbinar Design, which is also engaged in a similar line of business. Thurbinar has a stock price of $20 per share, with 15 million shares outstanding. It also has $100 million in outstanding debt, with a yield on the debt of 4.5%. Thurbinar’s equity beta is 1.00.

• a. Assume Thurbinar’s debt has a beta of zero. Estimate Thurbinar’s unlevered beta. Use the unlevered beta and the CAPM to estimate Thurbinar’s unlevered cost of capital.

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• b. Estimate Thurbinar’s equity cost of capital using the CAPM. Then assume its debt cost of capital equals its yield, and using these results, estimate Thurbinar’s unlevered cost of capital.

• c. Explain the difference between your estimates in part (a) and part (b).

• d. You decide to average your results in part (a) and part (b), and then average this result with your estimate from Problem 17. What is your estimate for the cost of capital of your firm’s project?

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