GBH Inc. pays no dividends. Instead, the company reinvests all of its earnings into maintaining fast growth. (Why?) Smart people, however, believe the companys growth will soon slow and it will pay a dividend in five years. (Think of this as at the end of the fifth year.) That dividend is expected to be about $5.00, and the company may follow its competitors and grow the dividend about 5.0% per year. If the required return of shareholders is 15.0%, what is a good estimate of the price the trust should pay today for this stock?

Sketch the scenario in 5c in a timeline:

5d) The simple models we have been using seem to ignore what we observe: Even if dividends don't change so much throughout a year, stock prices change quite a bit. They go up and down quite frequently. What's behind this?

TIME:	0	1	2	3	4	5
CASH FLOW:						$5.00

MINI-CASE Lawrence's Legacy: Part 1 Don Kraska, a senior stockbroker and certified finan cial analyst with a well-known, full-service brokerage, was studying the list of questions that were to form the basis of his presentation before a committee of officials from the town of Webley. Two days ago he received a call from Webley's finance director. She informed him that the town had received a pleasant, but challeng- ing, surprise in the form of a brequest from the estate of a successful local businessman, James Lawrence. Lawrence had left the town 2.000 shares of Google stock, currently valued at approximately $1.250,000. Lawrence had purchased the shares in 2004 at the subscription price of $100 per share. When the stock's value increased tremendously, Lawrence decided that rather than selling it and paying capital gains taxes, he would donate the shares to a good cause upon his death. The terms of the legacy required the town to set up a trust fund, which they would name the Virginia Lawrence Memorial Trust, in honor of James Lawrence's wife, who had been active in youth-oriented community groups. The trust was to distribute 5 of the trust's value in the form of grants each year to community groups involved with youth activities. The will specifically stated that the trust should sell the Google shares as soon as possible and use the proceeds to create a diversified stock portfolio. Over the long term. Lawrence expected the portfolio's value to increase by 8% to 12% a year, thus allowing the grants to grow at the rate of inflation or better. Assume you are in Kraska's position, preparing to answer the committee's questions. The committee members are educated, intelligent people with no spe- cialized training in investments, Kraska realizes that for some of the questions, he will inevitably have to "do the math." He originally intended to use his laptop. a This mini-case is available in MyFinanceLab. committee included a high school math teacher and a civil engineer, he decided to use basic formulas in his presentation as well. Following are some of the ques- tions that committee members asked at the meeting. Questions 1. Why do you think that Lawrence specified that the trust should invest the money in stocks rather than bonds or certificates of deposit? 2. How will the trust obtain the cash to make the grants F the dividends do not amount to 5% of the portfo- lio's value? 3. What is the difference between common stock and preferred stock? 1. How do we know if we are paying a fair price for the stock that we purchase! 5. For what are we actually paying when we buy a share af stock? Kraska intends to use the following examples to answer this question a. ABC, Inc. preferred stock pays a constant divi dend of $5.00 per year. Assume that investors require a 9% rate of return. b. DEF, Inc. common stock recently paid a dividend of $1.50. The estimated growth rate of dividends is 6% per year, and the required rate of return is 11%. c. GBH. Inc, pays no dividend and reinvests all its earnings into rapid growth, but it is expected to begin paying dividends in five years. The first dividend will be $5.00. dividends will grow at 5% per year, and the required rate of return through out the period is 15% 6. Why do stock prices change so quickly and by so much? projector, and a computer program that emulates a financial calculator, but when he learned that the MINI-CASE Lawrence's Legacy: Part 1 Don Kraska, a senior stockbroker and certified finan cial analyst with a well-known, full-service brokerage, was studying the list of questions that were to form the basis of his presentation before a committee of officials from the town of Webley. Two days ago he received a call from Webley's finance director. She informed him that the town had received a pleasant, but challeng- ing, surprise in the form of a brequest from the estate of a successful local businessman, James Lawrence. Lawrence had left the town 2.000 shares of Google stock, currently valued at approximately $1.250,000. Lawrence had purchased the shares in 2004 at the subscription price of $100 per share. When the stock's value increased tremendously, Lawrence decided that rather than selling it and paying capital gains taxes, he would donate the shares to a good cause upon his death. The terms of the legacy required the town to set up a trust fund, which they would name the Virginia Lawrence Memorial Trust, in honor of James Lawrence's wife, who had been active in youth-oriented community groups. The trust was to distribute 5 of the trust's value in the form of grants each year to community groups involved with youth activities. The will specifically stated that the trust should sell the Google shares as soon as possible and use the proceeds to create a diversified stock portfolio. Over the long term. Lawrence expected the portfolio's value to increase by 8% to 12% a year, thus allowing the grants to grow at the rate of inflation or better. Assume you are in Kraska's position, preparing to answer the committee's questions. The committee members are educated, intelligent people with no spe- cialized training in investments, Kraska realizes that for some of the questions, he will inevitably have to "do the math." He originally intended to use his laptop. a This mini-case is available in MyFinanceLab. committee included a high school math teacher and a civil engineer, he decided to use basic formulas in his presentation as well. Following are some of the ques- tions that committee members asked at the meeting. Questions 1. Why do you think that Lawrence specified that the trust should invest the money in stocks rather than bonds or certificates of deposit? 2. How will the trust obtain the cash to make the grants F the dividends do not amount to 5% of the portfo- lio's value? 3. What is the difference between common stock and preferred stock? 1. How do we know if we are paying a fair price for the stock that we purchase! 5. For what are we actually paying when we buy a share af stock? Kraska intends to use the following examples to answer this question a. ABC, Inc. preferred stock pays a constant divi dend of $5.00 per year. Assume that investors require a 9% rate of return. b. DEF, Inc. common stock recently paid a dividend of $1.50. The estimated growth rate of dividends is 6% per year, and the required rate of return is 11%. c. GBH. Inc, pays no dividend and reinvests all its earnings into rapid growth, but it is expected to begin paying dividends in five years. The first dividend will be $5.00. dividends will grow at 5% per year, and the required rate of return through out the period is 15% 6. Why do stock prices change so quickly and by so much? projector, and a computer program that emulates a financial calculator, but when he learned that the