Assume that a U.S. equity has per share earnings estimates of $0.50 in the rst year and

Assume that a U.S. equity has per share earnings estimates of $0.50 in the first year and $1.00 in the second year with an indicated annual dividend of $0.10. Also assume that the firm has an annual growth rate of 15% and that its growth and transition stages are each two years. The firm's current payout ratio is then 20% as a result of its current annual dividend and first year earnings of $0.50 per share (0.10/0.50= 20%). Assume that the current 10-year Treasury bond rate is 6% and that the equity risk premium is 4%. Calculate the theoretical value of the equity using the Bloomberg dividend discount model. (answer should be $10.2)

(Growth stage: varies from 3Y to 9Y; during the first year of the growth stage, if there is an explicit EPS forecast for FY3, use that forecast; if there is no explicit forecast for FY3, the EPS in FY3 is set as FY2×(1 + long-term growth rate); during the remaining years of the growth stage earnings per share (EPS) grow at the long-term growth rate.

Transition stage: following the growth stage, the model assumes that the earnings growth rate for the firm approaches the rate that applies to the general market for all mature issues. The model applies the same linear increase or decrease to the payout ratio to arrive at the mature stage payout ratio, which defaults to 45%.)

Answer rating: 100% (QA)

Answer Background Example Projected EPS Discount Rate Assumptions Example Projected Dividends Model Stages Example Theoretical Price Interpretation Background The dividend discount model estimates the ... View the full answer