Lengefeld Manufacturing expects to have earnings per share of $2 in the coming year. The firm does not have share repurchases. (1). Under the initial policy, the firm plans to pay out all of its earnings as a dividend rather than reinvest these earnings and grow. With these expectations of no growth of the firm's earnings and stock prices, Lengefeld's current stock price (Po) is $24. What is the expected stock return (i.e., equity cost of capital) per year under the initial policy? (2). Suppose Lengefeld could adopt a new policy by cutting its dividend payout rate to 50% for the foreseeable future and using the retained earnings to open an additional factory. The return on investment in the new factory is expected to be 15%. If we assume that the risk of the new factory is the same as the risk of its existing factories, then the firm's equity cost of capital is unchanged. What is the growth rate of the firm's earning (gnew) per year if the firm adopts this new- policy? What is Lengefeld's current stock price (pnewo) under this new policy?
Dividend Valuation
Dividend refers to a reward or cash that a company gives to its shareholders out of the profits. Dividends can be issued in various forms such as cash payment, stocks, or in any other form as per the company norms. It is usually a part of the profit that the company shares with its shareholders.
Dividend Discount Model
Dividend payments are generally paid to investors or shareholders of a company when the company earns profit for the year, thus representing growth. The dividend discount model is an important method used to forecast the price of a company’s stock. It is based on the computation methodology that the present value of all its future dividends is equivalent to the value of the company.
Capital Gains Yield
It may be referred to as the earnings generated on an investment over a particular period of time. It is generally expressed as a percentage and includes some dividends or interest earned by holding a particular security. Cases, where it is higher normally, indicate the higher income and lower risk. It is mostly computed on an annual basis and is different from the total return on investment. In case it becomes too high, indicates that either the stock prices are going down or the company is paying higher dividends.
Stock Valuation
In simple words, stock valuation is a tool to calculate the current price, or value, of a company. It is used to not only calculate the value of the company but help an investor decide if they want to buy, sell or hold a company's stocks.
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