Anand heads the portfolio management schemes division of Phoenix Investments, a well known financial services company. Anand has been requested by Arrow Technologies to give an investment seminar to its senior managers interested in investing in equities through the portfolio management schemes of Phoenix Investments. Manish, the contact person of Arrow Technologies, suggested that the thrust of the seminar should be on equity valuation. Anand has asked you to help him with his presentation.
To illustrate the equity valuation process, you have been asked to analyze Acme Pharmaceuticals which manufactures formulations and bulk drugs. In particular, you have to answer the following questions:
What is the general formula for valuing any stock, irrespective of its dividend pattern?
How is a constant growth stock valued?
What is the required rate of return on the stock of Acme Pharmaceuticals? Assume that the risk-free rate is 7 percent, the market risk premium is 6 percent, and the stock of Acme has a beta of 1.2.
Assume that Acme Pharmaceuticals is a constant growth company which paid a dividend of Rs 5.00 yesterday (D0 =Rs 5.00) and the dividend is expected to grow at the rate of 10 percent per year forever.
What is the expected value of the stock a year from now?
What is the expected dividend yield and capital gains yield in the first year?
If the stock is currently selling for Rs 110, what is the expected rate of return on the stock? Assume D0=Rs 5.00 and a constant growth rate of 10 percent.
Assume that Acme Pharmaceuticals is expected to grow at a supernormal growth rate of 25 percent for the next 4 years, before returning to the constant growth rate of 10 percent. What will be the present value of the stock under these conditions? What is the expected dividend yield and capital gains yield in year 2? Year 5? Hereafter assume D0 = Rs 5.00 and a 15 percent required return.
Assume that Acme Pharmaceuticals will have zero growth during the first 2 years and then resume its constant growth of 10 percent in the third year. What will be the present value of the stock under these conditions?
Assume that the stock currently enjoys a supernormal growth rate of 30 percent. The growth rate, however, is expected to decline linearly over the next four years before settling down at 10 percent. What will be the present value of the stock under these conditions?
Assume that the earnings and dividends of Acme Pharmaceuticals are expected to decline at a constant rate of 5 percent per year. What will be the present value of the stock? What will be the dividend yield and capital gains yield per year?
Assume that the earnings and dividends of Acme Pharmaceuticals are expected to grow at a rate of 30 percent per year for the next 3 years and thereafter the growth rate is expected to decline linearly for the following 4 years before settling down at 10 percent per year forever. What will be the present value of the stock under these conditions?