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1) In spring of 1999, pricing of Internet companies was matter of debate among finance practitioners and academics alike. Take the case of AOL, which on April 22, 1999 closed at $148.6875, consensus had a next-year earnings estimate of $0.53 per share, forward P/E =281, and 49.5% annual nominal earnings growth for the next 5 years. Suppose that AOL’s annual growth was expected to reduce to 28% during the following 5 years and then to settle down to average long-term growth of 8%. AOL’s 5-year growth consensus was about 2% higher than long-term nominal growth of earnings forecasted at that time for the S&P 500 as a whole. Additionally, suppose that after ten years AOL was expected to start a 51% dividend payout (about same as the long-term average of the S&P 500). Value AOL share’s by discounting future dividends. Assume a cost of equity of 10%. Interpret your results. How many times would AOL require to grow its real earnings over 10 years to give explanation for your result? Suppose 2.5% annual in?ation.

Basic Finance, Finance

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