(Challenge Question) Lewin Skis Inc. (today) expects to earn $4.00 per share for each of the future operating periods (beginning at time 1) if the firm makes no new investments (and returns the earnings as dividends to the shareholders). However, Clint Williams, President and CEO, has discovered an opportunity to retain (and invest) 25% of the earnings beginning three years from today (starting at time 3). This opportunity to invest will continue (for each period) indefinitely. He expects to earn 40% (per year) on this new equity investment (ROE of 40), the return beginning one year after each investment is made. The firm's equity discount rate is 14% throughout.
a. What is the price per share (now at time 0) of Lewin Skis Inc. stock without making the new investment?
b. If the new investment is expected to be made, per the preceding information, what would the value of the stock (per share) be now (at time 0)?
c. What is the expected capital gain yield for the second period, assuming the proposed investment is made? What is the expected capital gain yield for the second period if the proposed investment is not made?
d. What is the expected dividend yield for the second period if the new investment is made? What is the expected dividend yield for the second period if the new investment is not made?