Question

1. QuickSnack is a company that sells specialty snacks and has established a solid customer base over the last decade. It is now generating a stable revenue stream that it does not expect to change. The shares of the company currently has a share price of $32.22. If the return required for this investment is 12%, what is the dividend paid by the company? What is not an assumption when answering this question?

a.Dividends stay the same over time

b.Perpetual payments of constant cash flows

c.There is zero growth in dividends over time

d.Dividends do not growth so they are zero

2. GHI preference shares require a return of 12.3%. If the shares are currently selling for $22.34, what is the dividend paid by this share?

a.$4.99

b.$2.75

c.$1.82

d.$0.28

3. Which of the following statements is FALSE?

a.The PE Ratio is often useful as a measure of relative value.

b.The PE Ratio is inversely proportional to the cost of equity capital.

c.The PE Ratio is determined by multiplying current earnings by current market price.

d.Everything else being equal, the Price-Earnings (PE) Ratio will be larger for a high-growth f

Answer 1

1) The correct answer is

d) Dividends do not growth so they are zero.

This statement is not, dividend is not growing does not mean that dividend is zero.

Since the revenue is expected to remain constant so other options has to be made. Dividend will be constant and it is similar to perpetual payment of cash flows. The growth rate is zero, this would be an assumption since the revenue is not growing.

2) Required rate on preference share = annual dividend/current price

0.123 = dividend/22.34

Dividend = (22.34 * 0.123) = 2.75

3) The statement which is false is

c) The P/E ratio is determined by multiplying current earnings by current market price.

The P/E ratio is calculated as price divided by earnings.

Other options are correct. P/E ratio is a relative measure of valuation. P/E ratio is inversely proportional to the cost of capital. High growth firm does have high P/E ratio.