Company A Operates in the pharmaceutical industry. The company is working on finding a vaccination for

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Question:

Company A –

Operates in the pharmaceutical industry. The company is working on finding a vaccination for COVID 19 that does not need to be repeated every six months or so. The company's fiscal year end is April 30th and the company just announced its earnings for the fiscal year of 2020 as $4 per share. Since they are in the testing/approval stage of this vaccination, all company earnings are reinvested in company operations. The company executives think that this stage will be completed in 2 years. After this stage completed, the company will need another year to start mass production and worldwide sale of its vaccination. Company earnings are expected to increase by 4% per year until worldwide sale of its vaccination. The demand for this vaccination is expected to be quite high at the beginning. Therefore, the earnings of the company are estimated to increase by 50% per year in the first 4 years after worldwide sale of vaccination started and then at 20% per year for another 3 years. After that, the earnings of the company are expected to grow at the normal rate of 4% per year forever. The company will start distributing 40% of its earnings as dividends at the end of year 5. Since the company’s operations are perceived to be very risky in the first 8 years, investors will require a return of 22%. After that the required rate of return for this company stock will decrease to 14%.

Company B –

Operates in the pharmaceutical industry, produces and sells painkillers. Since the product of the company is quite standard, there has been no growth in company earnings, hence its dividends in the last 20 years. The company executives decided to emphasize the research and development activities to generate growth for their shareholders. The research and development department of the company started working on a new generation of painkillers. Today these new painkillers are in the final testing and approval phase. The company executives hope to obtain the approval of the Health Department and start worldwide sale of these painkillers in 4 years. During this period, there will be no growth in company earnings. Once the company starts selling the new generation of painkillers worldwide, company earnings will grow at a constant rate of 4% per year forever. The company's fiscal year end is April 30th and the company paid $4 per share as dividends on that day.This dividend is 80% of company earnings on that day. The company executives plan to pay $4 dividends per share in the next 2 years as well. After that, the company will stop paying any dividends until the third year of worldwide sale of painkillers. In that year, company will pay $4 as dividends per share again. After that company will pay 60% of its earnings as dividends. The required rate of return for this company shares is 14% per year forever.

a. Determine the value of Company A’s shares today.

b. Determine the value of Company B’s shares today.