| | | | | Week 7 HOMEWORK |
| | 6. Lauren Entertainment, Inc., has an 18 percent annual growth rate compared to the market rate of 8 percent. If the market multiple is 18, determine P/E ratios for Lauren Entertainment, Inc., assuming its beta is 1.0 and you feel it can maintain its superior growth rate for: |
| | a.the next 10 years. |
| | b.the next 5 years. |
| | 7. You are given the following information about two computer software firms and the S&P Industrials: |
| | a.Compute the growth duration of each company stock relative to the S&P Industrials. |
| | b.Compute the growth duration of Company A relative to Company B. |
| | c.Given these growth durations, what determines your investment decision? |
| | 8.The value of an asset is the present value of the expected returns from the asset during the holding period. An investment will provide a stream of returns during this period, and it is necessary to discount this stream of returns at an appropriate rate to determine the asset's present value. A dividend valuation model such as the following is frequently used: |
| | a .Identify the three factors that must be estimated for any valuation model, and explain why these estimates are more difficult to derive for common stocks than for bonds. |
| | b. Explain the principal problem involved in using a dividend valuation model to value: |
| | (1) companies whose operations are closely correlated with economic cycles. |
| | (2) companies that are of very large and mature. |
| | (3) companies that are quite small and are growing rapidly. |
| | Assume that all companies pay dividends. |
| | 10. The constant-growth dividend discount model can be used both for the valuation of companies and for the estimation of the long-term total return of a stock. |
| | a. Using only the preceding data, compute the expected long-term total return on the stock using the constant-growth dividend discount model. |
| | b. Briefly discuss three disadvantages of the constant-growth dividend discount model in its application to investment analysis. |
| | c. Identify three alternative methods to the dividend discount model for the valuation of companies. |
| | 11. An analyst expects a risk-free return of 4.5 percent, a market return of 14.5 percent, and the returns for Stocks A and B that are shown in Exhibit 14.24. |
| | | a. Show on a graph: |
| | | (1) where Stocks A and B would plot on the security market line (SML) if they were fairly valued using the capital asset pricing model (CAPM). |
| | | (2) where Stocks A and B actually plot on the same graph according to the returns estimated by the analyst and shown in Exhibit 14.24. |
| | | b. State whether Stocks A and B are undervalued or overvalued if the analyst uses the SML for strategic investment decisions. |
| | 12.Lauren Turk is reviewing Francesca Toy's financial statements in order to estimate its sustainable growth rate. Using the information presented in Exhibit 14.25: |
| | a. (1) identify and calculate the three components of the DuPont formula. |
| | (2) calculate the ROE for 2011, using the three components of the DuPont formula. |
| | (3) calculate the sustainable-growth rate for 2011. |
| | b. Turk has calculated actual and sustainable growth for each of the past four years and finds in each year that its calculated sustainable-growth rate substantially exceeds its actual growth rate. Cite two courses of action (other than ignoring the problem) that Turk should encourage Francesca Toy to take, assuming the calculated sustainable-growth rate continues to exceed the actual growth rate. |
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WEEK7HOMEWORKNOANSWERS.xlsx
