ANSWER #4 ONLY

Mini Case 4: Valuing Stock Valuing Stocks Your investment adviser has sent you three analyst reports for a young, growing company named Vegas Chips, Incorporated. These reports depict the company as speculative, but each one poses different projections of the company's future growth rate in earnings and dividend. All three reports show that Vegas Chips earned $1.20 per share in the year ended previously. There is consensus that a fair rate of return to investors for this common stock is 14 percent, and that management expects to consistently earn a 15 percent return on the book value of equity (ROE = 15 percent).

1. The analyst who produced report A makes the assumption that Vegas Chips will remain a small, regional company that, although profitable, is not expected to grow. In this case, Vegas Chips' management is expected to elect to pay out 100 percent of earnings as dividends. Based on this report, what model can you use to value a share of common stock in Vegas Chips? Using this model, what is the value?

2. The analyst who produced report B makes the assumption that Vegas Chips will enter the national market and grow at the steady, constant rate. In this case, Vegas Chips' management is expected to elect to pay out 40 percent of earnings as dividends. This analyst discloses news that this dividend has just been committed to current stockholders. Based on this report, what model can you use to value a share of common stock in Vegas Chips? Using this model, what is the value?

3. The analyst who produced report C makes the assumption that Vegas Chips will enter the national market but expects a high level of initial excitement for the product that is then followed by growth at a constant rate. Earnings and dividends are expected the rate of 50 percent over the next year, 20 percent for the following two years, and then revert back to a constant growth rate of 9 percent thereafter. This analyst also discloses that Vegas Chips' management has just announced the pay out of 40 percent of the recently reported earnings to current stockholders. Based on this report, what model can you use to value a share of common stock in Vegas Chips? Using this model, what is the value?

4. Discuss the feature(s) that drives the differing valuation of Vegas Chips, Incorporated. What additional information do you need to garner confidence in the projections of each analyst report?