1.Dorpac Corporation has a dividend yield of 1.5%. Dorpac’s equity cost of capital is 8%, and its dividends are expected to grow at a constant rate.
a. What is the expected growth rate of Dorpac’s dividends?
b. What is the expected growth rate of Dorpac’s share price?
2.Kenneth Cole Productions (KCP), suspended its dividend at the start of 2009. Suppose you do not expect KCP to resume paying dividends until 2011.You expect KCP’s dividend in 2011 to be $0.40 per year (paid at the end of the year), and you expect it to grow by 5% per year thereafter. If KCP’s equity cost of capital is 11%, what is the value of a share of KCP at the start of 2009?
3.DFB, Inc., expects earnings this year of $5 per share, and it plans to pay a $3 dividend to shareholders. DFB will retain $2 per share of its earnings to reinvest in new projects with an expected return of 15% per year. Suppose DFB will maintain the same dividend payout rate, retention rate, and return on new investments in the future and will not change its number of outstanding shares.
a. What growth rate of earnings would you forecast for DFB?
b. If DFB’s equity cost of capital is 12%, what price would you estimate for DFB stock?
c. Suppose DFB instead paid a dividend of $4 per share this year and retained only $1 per share in earnings. If DFB maintains this higher payout rate in the future, what stock price would you estimate now? Should DFB raise its dividend?
4.Cooperton Mining just announced it will cut its dividend from $4 to $2.50 per share and use the extra funds to expand. Prior to the announcement, Cooperton’s dividends were expected to grow at a 3% rate, and its share price was $50. With the new expansion, Cooperton’s dividends are expected to grow at a 5% rate. What share price would you expect after the announcement?
(Assume Cooperton’s risk is unchanged by the new expansion.) Is the expansion a positive NPV investment?