University of Illinois at Springfield Payout Policy & Firm Valuation Essay THERE ARE FIVE QUESTIONS IN THIS ASSIGNMENT. THE QUESTIONS ARE IN THE ATTACHED F

University of Illinois at Springfield Payout Policy & Firm Valuation Essay THERE ARE FIVE QUESTIONS IN THIS ASSIGNMENT. THE QUESTIONS ARE IN THE ATTACHED FILE. BELOW IS JUST SIMPLY A SMALL EXPLANATION OF THE ASSIGNMENT.

Learning Objectives & Instructions

This assignment is intended to give you practical applications of payout policy decisions and different equity and firm valuation models. As part of this assignment you will apply dividend discount models, total payout models, and valuation models that use financial multiples.

Please follow the following additional instructions when completing the assignment:

– Cash flows occur annually. In other words, you do not need to make a midyear adjustment or adjust the interest rate.
– You may use Excel for all your calculations and to create the tables showing your results.
– Please make your tables fit on one page. Choosing a slightly smaller font size as well as Word’s“Auto Fit to Page” feature can help you with this. Additionally, you may present the tables inlandscape format if necessary.
– If your write-up has several pages, please staple them together.
– If you can not make it to class on the due date for some reason you may drop off a copy of yourassignment at my office before the due date. Managerial Finance – FIN 320
Homework Assignment 3 – Payout Policy and Firm Valuation
Due 10/10/2019 at the beginning of class
Learning Objectives & Instructions
This assignment is intended to give you practical applications of payout policy decisions and different
equity and firm valuation models. As part of this assignment you will apply dividend discount models, total
payout models, and valuation models that use financial multiples.
You may work on this assignment independently or in groups of up to five students. If you work in groups
please only hand in one copy of the assignment per group and make sure to list the full names of all your
group members. You will hand in a type-written copy of your assignment at the beginning of class on the
due date. The first page should have the title “FIN 320 – Homework Assignment 3” and list your full
name(s). I will not accept late submissions, hand-written submissions, or submissions by email.
Please follow the following additional instructions when completing the assignment:
–
–
Cash flows occur annually. In other words, you do not need to make a midyear adjustment or
adjust the interest rate.
You may use Excel for all your calculations and to create the tables showing your results.
Please make your tables fit on one page. Choosing a slightly smaller font size as well as Word’s
“Auto Fit to Page” feature can help you with this. Additionally, you may present the tables in
landscape format if necessary.
If your write-up has several pages, please staple them together.
If you can not make it to class on the due date for some reason you may drop off a copy of your
assignment at my office before the due date.
Question 1 – Share Repurchases in Perfect Capital Markets
ABC Company has no debt and a market capitalization of $1.5 billion and 35 million shares outstanding. It
plans to distribute $65 million to its shareholders through an open market repurchase. Assume that
markets are efficient and that there are no frictions (i.e. no taxes, no transaction costs, etc.).
A) What will the price per share of ABC be right before the repurchase? (Round to two decimals)
B) How many shares will be repurchased?
C) What will the price per share of ABC be right after the repurchase? (Round to two decimals)
1
Question 2 – Stock Valuation using DDM and Constant Retention Rate
XYZ Corporation expects to have earnings at the end of this year of 2.87 per share. XYZ plans to retain 23%
of its earnings in perpetuity. Each year, retained earnings will be invested in new projects with an expected
return of 25.13% per year. Any earnings that are not retained will be paid out as dividends. Assume XYZ
does not repurchase any shares and does not conduct any stock splits. Further, assume that all earnings
growth comes from the investment of retained earnings. If XYZ’s equity cost of capital is 11.4%, what
share price would you estimate for XYZ?
Question 3 – Stock Valuation using DDM and Varying Retention Rate
You have estimated the following earnings and payout rates for XYZ Corporation for the next five years
(see table below). If XYZ retains earnings they can be invested in new projects with an expected return of
25.13% per year. You anticipate that after year 5 XYZ will payout 77% of its earnings in perpetuity. Any
earnings that are not retained will be paid out as dividends. Assume XYZ does not repurchase any shares
and does not conduct any stock splits. Further, assume that all earnings growth comes from the
investment of retained earnings. If XYZ’s equity cost of capital is 11.4%, what price would you estimate
for XYZ’s stock today? Show your work by completing a table similar to the one below (round $ amounts
to two decimals).
Year
EPS (in $)
Payout %
g (in %)
Dividend per share (in $)
P5 (Terminal value)
Present Value
Share price today
0
–
1
$2.87
0%
2
3
4
5
0%
52%
52%
77%
–
–
–
–
2
Question 4 – Stock Valuation using Total Payout Model
You are trying to value the stock of ABC Inc. You know that the company has a cost of equity of 12% and
has 500 million shares outstanding today. You have estimated the total earnings of ABC for the next three
years, as well as the total dollar amounts of cash returned to shareholders through dividends and share
repurchases (see table below). You anticipate that the company will reach its maturity stage after three
years. You know that the company will not conduct any further share repurchases after three years but
that it will continue to pay dividends, and maintain a stable payout ratio of 50% of earnings from year
three onwards in perpetuity. You estimate that the company has a return on new investment of 12.5%,
and that all future earnings growth after three years comes from retained earnings. What price would you
estimate for ABC’s stock today? Show your work by completing a table similar to the one below.
Year
Total Earnings (in $mn)
Total Dividends (in $mn)
Total Repurchases (in $mn)
Long-term growth rate (g) (after year 3)
Total Payout (in $mn)
V3(Equity) (Terminal Value) (in $mn)
Present Value (in $mn)
V0(Equity) (in $mn)
Share Price P0
1
$15,000
$750
$4,500
–
2
$17,000
$2,550
$4,250
–
–
–
3
$19,000
$7,600
$1,900
Question 5 –Stock Valuation using Multiples
You are trying to value the stock of a small privately held company called Shale Oil Inc. You know that the
company has 10 million shares outstanding and that earnings per share are $3.90. You also know that the
company has $20 million in outstanding debt, revenues of $150 million, and EBITDA of $60 million. You
have compiled the following information on a set of comparable firms that are publicly traded.
Company Name
Antero Resources
Chesapeake Energy
EOG Resources
Occidental Petroleum
Pioneer Natural Resources
Whiting Petroleum
Selected Data on Comparable Companies
Enterprise
Debt to
P/E Ratio
Value
Enterprise
Value Ratio
$8,001
$13,543
$48,434
$48,556
$22,195
$3,631
0.87
0.72
0.10
0.19
0.07
0.79
1.43
1.44
12.33
8.71
22.99
2.96
Enterprise
Value to
Revenues
Ratio
1.83
1.37
2.74
2.64
2.39
1.96
Enterprise
Value to
EBITDA Ratio
4.95
4.44
5.68
5.50
5.67
2.87
A) Calculate the average P/E Ratio, the average Enterprise Value to Revenue Ratio, and the average
Enterprise to EBIDTA Ratio of the comparable companies.
B) Based on your answers in part (A) provide three estimates of the share price for Shale Oil Inc. (i.e.
calculate the share price based on the average P/E, the average EV/Revenue, and the average
EV/EBITDA ratios).
C) Which of these three multiples would you pick to value the stock of Shale Oil Inc. and why?
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