1.You read in the paper that Summit Systems from Problem 6 has revised its growth prospects and now expects its dividends to grow at 3% per year forever.
a. What is the new value of a share of Summit Systems stock based on this information?
b. If you tried to sell your Summit Systems stock after reading this news, what price would you be likely to get and why?
2.In early 2009, Coca-Cola Company had a share price of $46. Its dividend was $1.52, and you expect Coca-Cola to raise this dividend by approximately 7% per year in perpetuity.
a. If Coca-Cola’s equity cost of capital is 8%, what share price would you expect based on your estimate of the dividend growth rate?
b. Given Coca-Cola’s share price, what would you conclude about your assessment of Coca-Cola’s future dividend growth?
3.Roybus, Inc., a manufacturer of flash memory, just reported that its main production facility in Taiwan was destroyed in a fire. While the plant was fully insured, the loss of production will decrease Roybus’ free cash flow by $180 million at the end of this year and by $60 million at the end of next year.
a. If Roybus has 35 million shares outstanding and a weighted average cost of capital of 13%,what change in Roybus’ stock price would you expect upon this announcement? (Assume the value of Roybus’ debt is not affected by the event.)
b. Would you expect to be able to sell Roybus’ stock on hearing this announcement and make a profit? Explain.
4.potential new cancer drug. If the trials were successful, Apnex stock will be worth $70 per share. If the trials were unsuccessful, Apnex stock will be worth $18 per share. Suppose that the morning before the announcement is scheduled, Apnex shares are trading for $55 per share.
a. Based on the current share price, what sort of expectations do investors seem to have about the success of the trials?
b. Suppose hedge fund manager Paul Kliner has hired several prominent research scientists to examine the public data on the drug and make their own assessment of the drug’s promise. Would Kliner’s fund be likely to profit by trading the stock in the hours prior to the announcement?
c. What would limit the fund’s ability to profit on its information?