Rio National Corp. is a U.S.-based company and the largest competitor in its industry. Tables 18F -

Question:

Rio National Corp. is a U.S.-based company and the largest competitor in its industry. Tables 18F - 18I present financial statements and related information for the company. Table 18J presents relevant industry and market data.

The portfolio manager of a large mutual fund comments to one of the fund's analysts, Katrina Shaar: "We have been considering the purchase of Rio National Corp. equity shares, so I would like you to analyze the value of the company. To begin, based on Rio National's past performance, you can assume that the company will grow at the same rate as the industry."

a. Calculate the value of a share of Rio National equity on December 31, 2013, using the Gordon constant-growth model and the capital asset pricing model.

b. Calculate the sustainable growth rate of Rio National on December 31, 2013. Use 2013 beginning-of-year balance sheet values.

Constant Growth dividend Discount Model

High Flyer Industries has just paid its annual dividend of $3 per share. The dividend is expected to grow at a constant rate of 8% indefinitely. The beta of High Flyer stock is 1.0, the risk-free rate is 6%, and the market risk premium is 8%. What is the intrinsic value of the stock? What would be your estimate of intrinsic value if you believed that the stock was riskier, with a beta of 1.25?

Because a $3 dividend has just been paid and the growth rate of dividends is 8%, the forecast for the year-end dividend is $3— 1.08 = $3.24. The market capitalization rate (using the CAPM) is 6% + 1.0— 8% = 14%. Therefore, the value of the stock is

If the stock is perceived to be riskier, its value must be lower. At the higher beta, the market capitalization rate is 6% + 1.25— 8% = 16%, and the stock is worth only

Table 18F

Table 18J
Risk-free rate of return 4.00%
Expected rate of return on market index .........................9.00%
Median industry price/earnings (P/E) ratio .......................19.90
Expected industry earnings growth rate .........................12.00%

Financial Statements
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Balance sheet is a statement of the financial position of a business that list all the assets, liabilities, and owner’s equity and shareholder’s equity at a particular point of time. A balance sheet is also called as a “statement of financial... Dividend
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