Question content area top

Part $1$

$$DFB$,$ Inc. expects earnings next year of $ $4\mathrm{.}95$ per$$ share, and it plans to pay a $ $3\mathrm{.}28$ dividend to shareholders$($assume that is one year from$$ now$).$ DFB will retain $ $1\mathrm{.}67$ per share of its earnings to reinvest in new projects that have an expected return of $14\mathrm{.}3\%$ per year. Suppose DFB will maintain the same dividend payout$$ rate, retention$$ rate, and return on new investments in the future and will not change its number of outstanding shares. Assume next dividend is due in one year.

a$.$ What growth rate of earnings would you forecast for$$ DFB$?$

b$.$ If$$ DFB$\text{'}$s equity cost of capital is $11\mathrm{.}2\%,$ what price would you estimate for DFB stock$$ today?

c$.$ Suppose instead that DFB paid a dividend of $ $4\mathrm{.}28$ per share at the end of this year and retained only $ $0\mathrm{.}67$ per share in earnings. That$$ is$,$ it chose to pay a higher dividend instead of reinvesting in as many new projects. If DFB maintains this higher payout rate in the$$ future, what stock price would you estimate for the firm$$ now? Should DFB raise its$$ dividend?

Question content area bottom

Part $1$

a$.$ What growth rate of earnings would you forecast for$$ DFB$?$

$$DFB$\text{'}$s growth rate of earnings is

$$

enter your response here$\%.($Round to two decimal$$ places.$)$

Part $2$

b$.$ If$$ DFB$\text{'}$s equity cost of capital is $11\mathrm{.}2\%,$ what price would you estimate for DFB stock$$ today?

If$$ DFB$\text{'}$s equity cost of capital is $11\mathrm{.}2\%,$ then$$ DFB$\text{'}$s stock price will be $$$

$$

enter your response here. $($Round to the nearest$$ cent.$)$

Part $3$

c$.$ Suppose instead that DFB paid a dividend of $ $4\mathrm{.}28$ per share at the end of this year and retained only $ $0\mathrm{.}67$ per share in earnings. That$$ is$,$ it chose to pay a higher dividend instead of reinvesting in as many new projects. If DFB maintains this higher payout rate in the$$ future, what stock price would you estimate for the firm$$ now?

If DFB paid a dividend of $ $4\mathrm{.}28$ per share next year and retained only $ $0\mathrm{.}67$ per share in$$ earnings, then$$ DFB$\text{'}$s stock price would be $$$

$$

enter your response here. $($Round to the nearest$$ cent.$)$

Part $4$

Should DFB raise its$$ dividend?$($Select the best choice$$ below.$)$

A$.$

$$Yes$,$ DFB should raise dividends because the return on new investments is lower than the cost of capital.

B$.$

$$Yes$,$ DFB should raise dividends$$ because, according to the$$ dividend$-$discount model, doing so will always improve the share price.

C$.$

$$No$,$ DFB should not raise dividends because the projects are positive NPV$.$

D$.$

$$No$,$ DFB should not raise dividends because companies should always reinvest as much as possible.