Exercises Stock Valuation

Problem I
Newman Manufacturing is considering the purchase of the stock of Grips Tool
which recently earned P4.25 per share and paid cash dividends of P2.55 per
share. Grips earnings and dividends are expected to grow at 25% per year for
the next 3 years, after which they are expected to grow at 10% per year to
infinity.
What is the maximum price per share that Newman should pay for Grips if it has
a required return of 15%?
Problem II
Palace Inc. is entering into a 3-year remodeling and expansion project. The
construction will have a limiting effect on earnings during that time, but when it
is complete, it should allow the company to enjoy much improved growth in
earnings and dividends. The company recently paid a dividend of P3.40. It
expects zero growth in year 1. In years 2 and 3, 5% growth is expected, and in
year 4, 15% growth. In year 5 and thereafter, growth should be a constant 10%
per year.
What is the maximum price per share that an investor who requires a return of
14% should pay for Palace Inc.s common stock?
Problem III
Given the following data, estimate the common stock value using the
price/earnings (P/E) multiples.
Firm
A
B
C
D
E

Expected EPS P/E Multiple

P3.00
6.2
4.50
10.0
1.80
12.6
2.40
8.9
5.10
15.0

Problem IV
GM Enterprises has a beta of 1.20, the risk-free rate of return is currently 10%,
and the market return is 14%. The company anticipates that its future dividends
will increase at an annual rate consistent with that experienced over the past
years, when the following dividends were paid:
Year DPS
2014 P2.45
2013 2.28
2012 2.10
2011
1.95
2010 1.82
2009 1.80
2008 1.73
1. Use the CAPM model to determine the required return on GMs stock.
2. Use the Gordon Model and your answer in no. 1 to estimate the value of
GMs stock.
Problem V
Crown, Inc. expects to pay P1.12 dividend in 2016. The market price of the stock
is P49. The stocks beta is 1.10, the risk-free rate is 3.8% and the market return is
12.2%.
1. What is the dividend yield?
2. Compute the expected rate of return on Crowns stock using the CAPM
approach.
3. Using the Gordon model, what must be the growth rate in order to get the
expected return obtained in No. 2 above?

Problem VI
Given the following information for the stock of LLP Corp., calculate the risk
premium on its stock:
Current price per share of common
Expected dividend per share
Constant annual dividend growth rate
Risk-free rate of return

P50.00
3.00
9%
7%

Problem VII
Pacific Steel Company wishes to determine the value of Ace Foundry, a firm that
it is considering acquiring for cash. Pacific wants to determine the applicable
discount rate to use as an input to the constant growth valuation model. Aces
stock is not publicly traded. After studying the required returns of firms similar
to Ace that are publicly traded, Pacific believes that an appropriate risk premium
on Ace stock is about 5%. The risk-free rate is currently 9%. Aces dividend per
share for each of the past 6 years is shown below:
2014
2013
2012
2011
2010
2009

P3.44
3.28
3.15
2.90
2.75
2.45

1. Determine the maximum price that Pacific should pay for each share of
Ace.
2. What is the effect on the price under each of the following independent
conditions?
a. A decrease in its dividend growth rate of 2% from that exhibited over
the 2008-2013 period
b. A decrease in its risk premium to 4%