FUNDAMENTALS OF CORP.FIN.(LL)-W/CONNECT
FUNDAMENTALS OF CORP.FIN.(LL)-W/CONNECT
10th Edition
ISBN: 9781260848670
Author: BREALEY
Publisher: MCG
Question
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Chapter 7, Problem 38QP

a.

Summary Introduction

To determine: The sustainable growth rate.

a.

Expert Solution
Check Mark

Answer to Problem 38QP

The sustainable growth rateis 6%.

Explanation of Solution

Determine the sustainable growth rate

SustainableGrowthRate(g)=[PlowbackRatio×ReturnonEquity(ROE)]=[0.30×20%]=6%

Therefore, the sustainable growth rateis 6%.

b.

Summary Introduction

To determine: The stock price.

b.

Expert Solution
Check Mark

Answer to Problem 38QP

The stock priceis $35.

Explanation of Solution

Determine the stock price

StockPrice(P0)=[CurrentDividends(D1)×(1PlowbackRatio)RequiredReturn(r)GrowthRate(g)]=[$3×(10.30)12%6%]=[$2.106%]=$35

Therefore, the stock priceis $35.

c.

Summary Introduction

To determine: The present value of growth opportunities.

c.

Expert Solution
Check Mark

Answer to Problem 38QP

The present value of growth opportunities is $10.

Explanation of Solution

Determine the present value of growth opportunities

PVGO=[CurrentStockPriceNoGrowthPrice]=[$35($312%)]=[$35$25]=$10

Therefore, the present value of growth opportunities is $10.

d.

Summary Introduction

To determine: The P/E ratio.

d.

Expert Solution
Check Mark

Answer to Problem 38QP

The P/E ratiois 11.67.

Explanation of Solution

Determine the P/E ratio

PERatio=[CurrentStockPrice(P0)CurrentDividends(D0)]=[$35$3]=11.67

Therefore, the P/E ratio is 11.67.

e.

Summary Introduction

To determine: The price and P/E ratio if firm paid all earnings as dividends.

e.

Expert Solution
Check Mark

Answer to Problem 38QP

The price is $25 and P/E ratiois 8.33 if firm paid all earnings as dividends.

Explanation of Solution

Determine the price and P/E ratio

The price of if firm paid all earnings as dividends is $25, which is nothing but the stock price using no growth model.

PERatio=[CurrentStockPrice(P0)CurrentDividends(D0)]=[$25$3]=8.33

Therefore, the price is $25 and P/E ratio is 8.33 if firm paid all earnings as dividends.

e.

Summary Introduction

To discuss: The relationship between growth opportunities and PE ratio.

e.

Expert Solution
Check Mark

Explanation of Solution

The relationship between growth opportunities and PE ratio is as follows:

If the PE ratio is high, it directly reflects on higher present value of growth opportunities.

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