QUESTION 1: VALUATION OF SHARES
1.
ROE= 25%
Dividends Paid = DPS/EPS (54000/50000)/4.32 1.08/4.32 0.25 25%
Share price for Ragan is $27.36
2.
Growth for 5years = 18.75%
Growth after 5 years = 15%
Dividends
D(0)=1.08
D(1)=1.08 X 1.1875=1.2825
D(2)=1.2825 X 1.1875=1.52296
D(3)=1.52296 X 1.1875=1.8085
D(4)=1.8085 X 1.1875=2.1476
D(5)=2.1476 X 1.1875=2.5503
D(6)=2.5503 X 1.15=2.9328
Terminal Value = 2.9328/0.15 X 0.20 = $41.4
Share Price = D1/(1+r) + D2(1+r)^2 +D3(1+r)^3 + D4(1+r)^4 + (D5+V5) / (1+r)^5
= 1.2825/1.25 + 1.52296/1.25^2 + 1.8085/1.25^3 + 2.1476/1.25^4+ 2.5503+41.4/1.25^5
= $17.65
Estimated share price under Josh’s assumptions is $17.65
3.
Industry average price-earnings ratio = share price/EPS …show more content…
pros and cons of using risk-adjusted costs of capital for individual investments?
Risks vary from project to project. The risk-adjusted cost of capital is used to help understand the risk profile of a project. The risk is typically adjusted through the factor of Beta when Capital Asset Pricing Model (CAPM) is used. Therefore, an investment project has higher risk than the risk that the overall market has, Beta >1 is used and vice versa. Beta is influenced by the nature of the business. For instance, financial institutes (e.g. Banks) have a higher Beta since they have higher leverage on their balance sheet. On the other hand, consumer goods and utilities tend to usually have lower risk, therefore, lower Beta. Risk adjusted Cost of Capital accounts for the riskiness of an individual project and is, therefore, more rational in choosing individual projects. one of the major advantage of using risk adjusted COC is that an investor gets from this approach is that it evaluates the return after accounting for the risk accompanying the investment. The risk adjusted return on capital also helps in forming a steady outlook of profitability across not only business sectors but industries as well. It provides a wider view of the projects that are to be evaluated in order to acquire maximum …show more content…
There can be obstacles in accurately measuring the risk profile of a project. For example, not having data of other potential investments that you can compare with the investment opportunity you are planning on investing in. In addition, risk adjusted cost of capital can also be a time consuming process. In order to evaluate the risk adjusted COC for individual investment opportunity, it is required to classify an investment opportunity into a specific category and then
1.
ROE= 25%
Dividends Paid = DPS/EPS (54000/50000)/4.32 1.08/4.32 0.25 25%
Share price for Ragan is $27.36
2.
Growth for 5years = 18.75%
Growth after 5 years = 15%
Dividends
D(0)=1.08
D(1)=1.08 X 1.1875=1.2825
D(2)=1.2825 X 1.1875=1.52296
D(3)=1.52296 X 1.1875=1.8085
D(4)=1.8085 X 1.1875=2.1476
D(5)=2.1476 X 1.1875=2.5503
D(6)=2.5503 X 1.15=2.9328
Terminal Value = 2.9328/0.15 X 0.20 = $41.4
Share Price = D1/(1+r) + D2(1+r)^2 +D3(1+r)^3 + D4(1+r)^4 + (D5+V5) / (1+r)^5
= 1.2825/1.25 + 1.52296/1.25^2 + 1.8085/1.25^3 + 2.1476/1.25^4+ 2.5503+41.4/1.25^5
= $17.65
Estimated share price under Josh’s assumptions is $17.65
3.
Industry average price-earnings ratio = share price/EPS …show more content…
pros and cons of using risk-adjusted costs of capital for individual investments?
Risks vary from project to project. The risk-adjusted cost of capital is used to help understand the risk profile of a project. The risk is typically adjusted through the factor of Beta when Capital Asset Pricing Model (CAPM) is used. Therefore, an investment project has higher risk than the risk that the overall market has, Beta >1 is used and vice versa. Beta is influenced by the nature of the business. For instance, financial institutes (e.g. Banks) have a higher Beta since they have higher leverage on their balance sheet. On the other hand, consumer goods and utilities tend to usually have lower risk, therefore, lower Beta. Risk adjusted Cost of Capital accounts for the riskiness of an individual project and is, therefore, more rational in choosing individual projects. one of the major advantage of using risk adjusted COC is that an investor gets from this approach is that it evaluates the return after accounting for the risk accompanying the investment. The risk adjusted return on capital also helps in forming a steady outlook of profitability across not only business sectors but industries as well. It provides a wider view of the projects that are to be evaluated in order to acquire maximum …show more content…
There can be obstacles in accurately measuring the risk profile of a project. For example, not having data of other potential investments that you can compare with the investment opportunity you are planning on investing in. In addition, risk adjusted cost of capital can also be a time consuming process. In order to evaluate the risk adjusted COC for individual investment opportunity, it is required to classify an investment opportunity into a specific category and then