Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

(15 points) Alpha Inc, Beta Inc and Gamma Inc are three companies whose stocks have similar risk, hence they have the same equity cost of

  1. (15 points) Alpha Inc, Beta Inc and Gamma Inc are three companies whose stocks have similar risk, hence they have the same equity cost of capital (20%). Both firms are expected to generate the same earnings per share at the end of this year, in the amount of $24 per share. However, the three firms differ in terms of their reinvestment policy:
    • Alpha Inc reinvests 50% of its earnings at an ROE of 16% every year in perpetuity.
    • Beta Inc reinvests 40% of its earnings at an ROE of 20% every year in perpetuity.
    • Gamma Inc reinvests 32% of its earnings at an ROE of 25% every year in perpetuity.

  1. (3 points) What is the expected dividend growth rate for each firm?
  2. (6 points) What is the stock price for each firm today (t = 0), assuming that each stock is correctly priced?
  3. (3 points) What is the present value of growth options (PVGO) for each firm?
  4. (3 points) Suppose that each firm announces that it will increase its dividend payout rate to 100% (so under the new policy each firm will pay out 100% of its earnings every year forever). What will be the new stock price for each firm today (t = 0), immediately after this announcement?

Please do not answer with an excel sheet. I need to see it written down with the formulas. Thank you!

Step by Step Solution

There are 3 Steps involved in it

Step: 1

blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image

Step: 3

blur-text-image

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

International Finance Discussion Papers A Framework For Economic Forecasting

Authors: United States Federal Reserve Board, Neil R. Ericsson, Jaime Marquez

1st Edition

1288733585, 9781288733583

More Books

Students also viewed these Finance questions