Question 1 - NSM, Inc. is a distributor of electrical supplies. Management for the company has developed the following forecasts of net income:
|
Year
|
Forecasted Net Income
|
|
2017
|
$17,540
|
|
2018
|
$23,600
|
|
2019
|
$26,000
|
|
2020
|
$22,000
|
|
2021
|
$18,500
|
HES Inc. wholly owns the firm NSM. Jane King, CFO of HES, made the projections for NSM.
Jane King expects net income to grow at a rate of 8 percent per year after 2021 and the company's cost of equity capital is 14%. NSM common shareholders' equity at January 1, 2017 is $100,000. Assume that HES Inc. expects to withdraw all the income of NSM as dividends.
Questions:
a. Using the residual income valuation model, compute the value of NSM as of January 1, 2017.
b. What advice would you provide to HES regarding the ownership of NSM?
Question 2 - Use all the projection and data of NSM from the problem P2 except the following assumption: HES Inc. expects to withdraw only 30% of the income of NSM as dividends.
a. Using the residual income valuation model, compute the value of NSM as of January 1, 2017.
b. What advice would you provide to HES regarding the ownership of NSM?