Question 3 (18 marks)
Consider the following information for Firm X currently. Sales revenue is $50,000,000. Net
profit margin is 8%. There is no preferred stock. There are 2,000,000 outstanding shares of
common stock. Each lot of shares consist of 2,000 shares. Dividend payout ratio is constant at
30% each year. It is known that the risk premium for the share of Firm X is 8%, and the risk-
free rate is 2%.
a) Calculate the total dividend amount for Firm X currently, and hence its dividend per share.
(4 marks)
b) Calculate the earnings per share (EPS) for the stock.
(2 marks)
c) Calculate the required return rate for the stock.
(2 marks)
d) Assume the dividend (in part (a)) is just paid. If the sustainable growth rate of dividend is
4%, calculate the intrinsic value (i.e., expected price) of a share for the stock. (5 marks)
e) Assume the current P/E ratio is 4, and your expected price of the stock is the answer in part
(d). Suppose you consider either buying or selling some shares of Firm X. Justify your
investment decision (buying or selling) with calculation.
(5 marks)