question archive 1) Omni Telecom is trying to decide whether to increase its cash dividend immediately or use the fund to increase its future growth rate
1) Omni Telecom is trying to decide whether to increase its cash dividend immediately or use the fund to increase its future growth rate
Subject:FinancePrice:4.86 Bought12
1) Omni Telecom is trying to decide whether to increase its cash dividend immediately or use the fund to increase its future growth rate. It will use the dividend valuation model for the purposes of analysis.
D0 is currently $2.00, Ke is 10 percent, and g is 5 percent.
Under Plan A, D1 would be immediately increased to $2.20 and Ke and g will remain unchanged.
Under Plan D, D1 will remain at $2.00 but g will go up to 6 percent and Ke will remain unchanged.
a. Compute the price of the stock today under Plan A. (Do not round intermediate calculations.)
Share price $
b. Compute price of the stock today under Plan B. (Do not round intermediate calculations.)
Share price $
2. Matrix Corp Inc. is considering a 15 percent stock dividend. The capital accounts are as follows:
Common stock (4,000,000 shares)$40,000,000 Retained earnings60,000,000 Net worth$100,000,000
The company's stock is selling for $40 per share. The company had total earnings of $12,000,000 with 4,000,000 shares outstanding and EPS were $3.00. The firm has a P/E ratio of 13.33.(rounded)
a. Restate the equity section at year end after the 15 percent stock dividend. Show the new capital accounts.
Common stock$
Retained earnings
Net worth$
b. Restate the EPS and share price after the stock split (Assume the P/E ratio remains constant). (Do not round intermediate calculations. Round the final answers to 2 decimal places.)
EPS$ Share price$
d. What is the investor's total investment worth before and after the stock dividend if the P/E ratio remains constant? (There may be a slight difference due to rounding.) (Do not round intermediate calculations. Round the After stock dividend answer to 2 decimal places.)
Total investment
Before stock dividend $
After stock dividend $
2. Polycom Systems earned $553 million last year and paid out 25 percent of earnings in dividends.
a. By how much did the company's retained earnings increase? (Do not round intermediate calculations. Round the final answer to 2 decimal places. Enter the answer in millions.)
Addition to retained earnings $ million
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1a) $2.2 / (10% - 5%) = $44
1b) $2.0 / (10% - 6%) = $50
2a) Common stock $4600 000
RE $2340 000
*Net worth $100 000 000
2b)
EPS$ 2.61
Share price$ 34.79
2d)
Before (4million shares × $40) = 160 000 000
After (4.6M x $34.79) = 160 034 000
3a)
Income.................. 553 000 000
Dividends............ *138 250 000
Increase in RE....41475 000
Step-by-step explanation
1. Dividend discount model is a valuation model of the price of a share of stock on the idea that investors purchase stocks with the sole purpose of earning dividends. The formula is
P = D1 / Ke - g
p = price
d1= future dividend worth
k= equity component
g= growth rate
1a) $2.2 / (10% - 5%) = $44
1b) $2.0 / (10% - 6%) = $50
Shares declared as dividends are classified as small and large dividends.
- Small dividend ( less than 20%) is charged to Retained Earning (RE) at market or par value per share, whichever is higher, multiplied by the number of shares.
- Large dividends (20% and above) is charged to RE at par value per number shares declared.
Thus for the shares declared entry would be:
*credit RE 24 000 000
Debit Common Stock 600 000
Debit APIC 23400 000
*4M shares x 15% x $40 market per share
To effect on balances:
Common stock (4600 000shares )$4600 009
RE $2340 000
*Net worth $100 000 000
*includes sum of common stock, RE and APIC
2b) Earnings per share (EPS) is calculated as:
Earnings - preferred dividends / Outstanding shares
= 12000 000 - 0 / 4600 000
= 2.61
P/E ratio is cculated as:
Market per share / EPS , thus to get Market per share without change in PE ratio, we should use this fomula derived from ofiginal formula:
EPS X PE ratio = Market per share
2.61 x 13.33 = 34.79
2d) total worth of investment = (shares x market price)
Before (4million shares × $40) = 160 000 000
After (4.6M x $34.79) = 160 034 000
3a) Re is imcreased ny the total earnings and decreased by any dividends declaration thus:
Income.................. 553 000 000
Dividends............ *138 250 000
Increase in RE....41475 000
*553M x 25%
