FIN 3403 - CH 8 - Stock Valuation

What is the price in one year for a stock that pays a dividend in one year of $2 for the growth rate of 8% and a required return of 10%?

$108 P1=(D2) / (r-g) = [D1 * (1+g) / (r-g) = ($2 * 1.08) / .10-.08)

What is the price of a stock at the end of the year (P1) if the dividend for year two (Div2) is $5, the price for year two (P2) is $20, and the discount rate is 10%?

$22.73 P1 = (Div2 + P2) / (1 + r)

Name three features of a common stock:

- it has no special preference in bankruptcy -it has no special preference in receiving dividends -it generally has voting rights

In which ways is preferred stock like a bond?

- preferred shareholders receive a stated dividend, similar to interest on a bond - preferred shareholders receive a stated value if the firm liquidates, like bondholders _ preferred stock sometimes has a sinking fund, giving it a set maturity like bonds - some preferred stock has credit ratings, like bonds

A benchmark PE ratio can be determined using:

-The PEs of similar companies -A companies own historical PEs

Which of the following are reasons why it is more difficult to value common stock than it is to value bonds? -The life of a common stock is essentially forever - all bond cash flows are guaranteed to be paid -common stock cash flows are not known in advance -The rate of return required by the market is not easily observed.

-The life of a common stock is essentially forever -common stock cash flows are not known in advance -The rate of return required by the market is not easily observed.

Two key differences between the NYSE and NASDAQ:

1. NASDAQ is a computer network and his new physical location where trading takes place. 2. NASDAQ has multiple market maker system rather than a DMM system.

The NYSE differs from the NASDAQ primarily because the NYSE has: name three things

1. Physical location 2. Specialists 3. And auction market

A person who brings buyers and sellers together but does not maintain in inventory of stocks.

Broker

Name to cash flows to investors in stocks:

Capital gains and dividends

Which of the following are cash flows to investors in stocks? - interest - Capital gains - dividends - fees

Capital gains and dividends. Stock investors do not receive interest. Their cash flows come from capital gains and dividends only!

The price of a share of common stock is equal to the present value of all _________ future dividends.

Expected

This person executes trades for customers, with an emphasis on getting the best price as possible.

Floor broker

One common reason for having two classes of common stock with different voting rights is:

It is easier for insider such as founding families to maintain control of the company. This is an uncommon practice in the United States. Example: Ford, Google, GE

When voting for the Board of Directors, the number of votes a shareholder is entitled to is generally determined as follows:

One vote per share held

How does the constant growth formula calculate the stock price?

One year prior (year t) to the first dividend payment (Dt+1).

Fundamentally, the business of the NYSE is to attract and process what?

Order flow

The term that refers to the flow of customer orders to buy and sell stocks.

Order flow

____________ stock has a preference over ____________ stock in the payment of dividends.

Preferred, common

Scott corporation does not pay dividends. The PE ratio for its industry is 13.3, and Scott's EPS were a dollar 47. And what price should Scott's stock trade?

Price at time (t) = Benchmark PE X EPS = $19.55

Rights of shareholders:

Right to vote, right to share dividends paid, right to share assets after liquidation, preemptive right (right to share in any new stocks sold).

The trading of existing shares occurs in the _________________market.

Secondary

When companies have staggered elections for directors this is called a:

Staggered board also called classified boards because the directors are placed in different classes with terms that expire at different times.

The goal of many successful organizations as a ____________ rate of growth and dividends.

Steady

Which of the following entities declares a dividend? - The management of the company - The CFO - existing shareholders - The Board of Directors

The Board of Directors

Two or false: most dividends payable on preferred stock are cumulative.

True

This type of voting gives one vote for each percentage share. For example if you want 20% you get 20 votes. If you are 80% you get 80 boots.

straight voting

Dusty corporation has an issue of preferred stock that pays a dividend of 7% of it stated value which is $100. Which of the following would be a commonly used name for that preferred stock?

$7 preferred

What is the price of a stock if it's dividend a year from now is expected to be $3.20, the discount rate is 9%, and the constant rate of growth is 5%?

$80

Name two types of dividends payable on preferred stock:

Cumulative or noncumulative

Matthews company has two classes of common stock, and each share represents the same proportion of ownership in the company. Class A has two votes for each share. Class B has one vote per share. Which class is more valuable?

Class A. Larger voting rights add value to the class A shares.

The largest number of NYSE members are registered as?

Commission brokers

Name to NASDAQ features:

Computer network of security dealers, multiple market maker system

Three special case patterns of dividend growth include:

Constant growth, non-constant growth, zero growth.

Dividends not paid any particular year, and are carried forward as an arrearage.

Cumulative dividends

A person who maintains an inventory and stands ready to buy and sell stocks at any time.

Dealer

What information do we need to determine the value of stock using the zero growth model?

Discount rate and annual dividend amount

In the dividend discount model, the expected return for investors comes from which to sources? -amount of last dividend paid -tax rate -dividend yield -growth rate

Dividend yield and growth rate

What two sources make up the expected return:

Dividend yield and growth rate

A PE ratio that is based on estimated future earnings is known as a _____________ PE ratio.

Forward

And assets value is determined by the present value of its ___________ cash flows.

Future

The value of a firm is the function of it's ________ rate and it's _______ rate.

Growth; discount

Stock price reporting has increasingly moved from traditional print media to the ___________ in recent years.

Internet

Preferred dividends (is /not like) interest on a bond?

Is not like interest on a bond

One reason corporations use staggering boards is that:

It makes take over attempts to be less likely to be successful.

Most voting in large corporations is done by proxy because:

Most small shareholders cannot attend the annual meeting.

Name to NASDAQ features:

Multiple marketmaker system, and computer network of securities dealers.

WinWin Corporation has five board members, and each shareholder gets one vote per share. The company uses a straight board voting procedure. How does this arrangement affect minority shareholders?

No minority shareholder would have enough votes to win any seat on the board.

Is a company required to pay preferred dividends?

No; the company may differ dividends on preferred stock; however, they cannot pay dividends to come in shareholders until preferred dividends are paid.

The NYSE member who acts as a dealer in a small number of securities is called a _________.

Specialist, whom is the only type of NYSE member whose role is to act as a dealer in a small number of securities, often acting as a marketmaker.

Motor Motors has eight directors on its board, two of whom go up for election each year. This is an example of:

Staggered board

Can the dividend growth model still be used when the stock being value does not pay dividends?

The dividend growth model can still be used. The analyst message to him that, at some point in the company's future, it begins to pay dividends.

True or false: dividends may grow at a constant rate.

True

When valuing a stock, the advantage to considering the stock price in the distant future, rather than a more near-term price, as a cash flow is that:

When discounted to present value, a stock price in the distant future is nearly 0.

Will is deciding whether or not to buy Dang Corporation stock, whose current price is $54.95. Dang paid a dividend of $2.17 this year. Will estimates that dividends will grow very quickly, at a rate of 12%, for the next four years. After that, he expects the dividend growth rate to fall to 5%. Should Will buy the stock if his required rate of return is 10%?

Yes; using the two-stage growth model, the stocks value is $58.06.

If the growth rate (g) is zero, the capital games yield is?

Zero

One requirement of the dividend growth model is: (in other words is g greater than or less than r)?

g<r Growth rate must be less than the discount rate.

Preferred stock has a preference over common stock in the colon

-payment of dividends -The distribution of corporate assets in the event of liquidation

Two basic effects of a staggering board:

- Makes it more difficult for a minority to elect director because there are fewer directors to be elected at one time. - makes take over attempt less likely to be successful because it makes it more difficult to vote in a majority of new directors.

Supposed Bob owns 20 shares and Vicky owns 30 shares in Good Company, and there are five members of the Board of Directors. Under which voting arrangement can Bob assure himself of a board member that represents his interests?

Cumulative voting

This type of voting permits minority participation.

Cumulative voting