CVX Tech is known for creating innovative technology solutions for electric vehicle manufacturers. Three years ago, the company has raised $80 million through an IPO. However, it has not earned any profit so far. Analysts are expecting that CVX will earn a profit of 80 cents per share next year. The forecasted earnings per share for the following two years are $1.2 and $1.5. Then onwards the firm’s dividends are expected to grow at a constant rate. The firm’s ROE is expected to be 20% and the firm plans to to distribute about 40% of its earnings as dividends in the future. CVX’s cost of equity is estimated to be 15% pa.

i) Based on the information estimate CVX’s intrinsic value using a multistage dividend growth model. Show your calculations.

ii) Do you think a dividend discount model is appropriate for the valuation of a firm like CVX? Briefly discuss your answer with an explanation.

B) Security analyst Jo identified three potential securities A, B, and C for investment. The market portfolio M provides a 12% pa return and the risk-free return (rf) is 4% pa. In the following chart, Jo draws the securities market line and identifies the relative positions of these three securities. Using the data given on the chart below identify the security which will give you maximum abnormal return (alpha). Explain your answer with reasons.

Answer rating: 100% (QA)

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