Question

The Brealey Company plc is expected to pay 35.50 euro in dividends per share per annum for the next 6 years. In future years, after year 6, dividends are expected to grow at 8 percent per annum. The discount rate for Brealey Company plc is 10 percent

(a)        What is the share price in six years’ time?                             [20 marks]                                                                                                       

            (b)        What is the current share price?                                              [20 marks]

(c )       Do you think it is a reasonable assumption to allow the dividends to grow at 8 % per annum in perpetuity?                              [20 marks]

(d)       If you were not given the discount rate of 10 percent explain how you would go about estimating this rate of return.

[20 marks]

(e)        If the computed price for a share of Brealey Company plc is not identical to the price observed in the equity market, what would you conclude about your estimate?                                           [20 marks]

Answer 1

1.
=35.50*1.08/(10%-8%)=1917

2.
=35.50/10%*(1-1/1.1^6)+35.50*1.08/(10%-8%)*1/1.1^6=1236.708279

3.
No, 8% is a high growth-it is possible in the short term but not in long term

4.
Estimating beta
Getting risk free rate
Getting market return
Using CAPM model and calculating rate of return as risk free rate+beta*(market return-risk free rate)

5.
If computed price is more than that observed in the market, the stock is undervalued and one should buy the stock
If computed price is less than that observed in the market, the stock is overvalued and one should buy the stock