Situation

Sam Forbes and Jenny Hewes are senior vice-presidents of the First Creek Investment Council . They are co-directors of the company's pension fund management division, with Sam having responsibility for fixed income securities (primarily bonds) and Jneey being responsible for equity investments. A major new client has requested that council present an investment seminar to Executive Committee, and Forbes and Hewes, who will make the actual presentation, have asked you, a recent UCW graduate to help them.

To illustrate the common stock valuation process, Sam and Jenny have asked you to analyze the Temp Force Company, an employment agency that supplies word processor operators and computer programmers to businesses with temporarily heavy workloads. You are to answer the following questions.

a. Describe briefly the legal rights and privileges of common stockholders. (1 mark)

b. Assume that Temp Force is a constant growth company whose last dividend (Do, which was paid yesterday) was $2.00, and whose dividend is expected to grow indefinitely at a 5 percent rate. (2 marks)

(1.) What is the firms expected dividend stream over the next 3 years?

(2.) What is the firms current stock price?

(3.) What is the stock's expected value 1 year from now?

(4.) What are the expected dividend yield, the capital gains yield, and the total return during the first year?

c. Now assume that the stock is currently selling at $43.75. What is the expected rate of return on the stock? (1mark)

f. What would the stock price be if its dividends were expected to have zero growth? (1 mark)

g. Now assume that Temp Force is expected to experience supernormal growth of 30 percent for the next 3 years, then to return to its long-run constant growth rate of 5 percent. What is the stock's value under these conditions? What is its expected dividend yield and capital gains yield in Year 1? In Year 4? (2marks)

h. Is the stock price based more on long-term or short-term expectations? Answer this by finding the percentage of Temp Force current stock price based on dividends expected more than 3 years in the future. (1 mark)

i. Suppose Temp Force is expected to experience zero growth during the first 3 years and then to resume its steady-state growth of 5% in the fourth year. What is the stock's value now? What is its expected dividend yield and its capital gains yield in Year 1? In Year 4? (2marks)

j. Finally, assume that Temp Forces earnings and dividends are expected to decline by a constant 6 percent per year, that is, g = -5%. Why would anyone be willing to buy such a stock and at what price should it sell? What would be the dividend yield and capital gains yield in each year? (1 mark)

l. Temp Force recently issued preferred stock. It pays an annual dividend of $1.60, and the issue price was $25 per share. What is the expected return to an investor on this preferred stock? (1 mark)