Mountain Inc. is all-equity financed and will be liquidated after 2 years.

2 million shares, rate of return of 20%.

Earnings will be $20 million by end of year 1. Investment outlay of $10 million at the end of year 1 will generate earnings of $24 million at the end of year 2. Perfect capital markets. The firms policy is to pay out any surplus cash as dividends.

a.What is the value of Mountain today? What is its current share price?

b. Suppose that John owns 2% of Mountain Inc. and he desires an income of $300,000 from the firm at the end of year 1. Show how John can achieve this without changing the firms dividend policy. (Assume Alan will buy or sell stocks only at the end of year 1 on the ex-dividend date). What percentage of the firm will John own after the end of year 1 if he follows this strategy?

c. Show how John can obtain part (b) through changing the current dividend policy of the firm. What is the new share price at the end of year 1 after the new dividend has been paid? How many new shares must Mountain Inc. issue (on the ex-dividend date at the end of year 1? If the firm does follow this new policy, what percentage of the firm will Alan own after the end of year 1?