Suppose Roger Federer Tennis Trinkets (RFTT) is a public company with projected next year earnings of $10.00 per share and 6.7 million shares outstanding. Its plowback ratio is 20% and the required rate of return is 6% per year. a) (6 points) Suppose that RFTT is expected to maintain an annual earnings growth of 2% and keep its plow back ratio constant. What is the price per share of a RFTT stock? What is the value (market capitalization) of the firm? b) (5 points) Compute the Present Value of Growth Opportunities (PVGO) for RFTT. c) (10 points) Despite their famous rivalry, Roger Federer has decided to hire Rafael Nadal after learning that Nadal is working on a new graphite formulation, which significantly increases tennis racquet power. In order to invest in the development of this formulation, RFTT has announced today that it plans to increase the plowback ratio next year and the year following to 80% and then go back to the original plowback ratio of 20%: 1 2 4 5 Year Plowback Ratio 3 20% 80% 80% 20% 20% Assuming the Return on New Investment (RONI) for is 10%, compute what the new stock price for RFTT should be today as a result of the change in its payout policy. d) (5 points) Suppose that RFTT did in fact change its payout policy as in part c), but today you observe that RFTT trading at $200. Describe how a violation of one of the assumptions in any of the previous parts could be responsible for the discrepancy between this price you observe and the price you computed in part c). (Note: You just need to provide one assumption which may have been violated and describe in words how it would result in mis-pricing in part c). Suppose Roger Federer Tennis Trinkets (RFTT) is a public company with projected next year earnings of $10.00 per share and 6.7 million shares outstanding. Its plowback ratio is 20% and the required rate of return is 6% per year. a) (6 points) Suppose that RFTT is expected to maintain an annual earnings growth of 2% and keep its plow back ratio constant. What is the price per share of a RFTT stock? What is the value (market capitalization) of the firm? b) (5 points) Compute the Present Value of Growth Opportunities (PVGO) for RFTT. c) (10 points) Despite their famous rivalry, Roger Federer has decided to hire Rafael Nadal after learning that Nadal is working on a new graphite formulation, which significantly increases tennis racquet power. In order to invest in the development of this formulation, RFTT has announced today that it plans to increase the plowback ratio next year and the year following to 80% and then go back to the original plowback ratio of 20%: 1 2 4 5 Year Plowback Ratio 3 20% 80% 80% 20% 20% Assuming the Return on New Investment (RONI) for is 10%, compute what the new stock price for RFTT should be today as a result of the change in its payout policy. d) (5 points) Suppose that RFTT did in fact change its payout policy as in part c), but today you observe that RFTT trading at $200. Describe how a violation of one of the assumptions in any of the previous parts could be responsible for the discrepancy between this price you observe and the price you computed in part c). (Note: You just need to provide one assumption which may have been violated and describe in words how it would result in mis-pricing in part c)
