House of Haddock has 5,100 shares outstanding and the stock price is $240. The c

Question

House of Haddock has 5,100 shares outstanding and the stock price is $240. The company is expected to pay a dividend of $48 per share next year, and thereafter the dividend is expected to grow indefinitely by 5% a year. The president, George Mullet, now makes a surprise announcement: He says that the company will henceforth distribute half the cash in the form of dividends and the remainder will be used to repurchase stock. The firm is expected to generate earnings of $244,800 each year. The annual dividend will be paid prior to the annual dividend repurchase a. What is the total value of the company before the announcement? Value before announcement b. What is the total value after the announcement? Value after announcement

Explanation / Answer

a)

Value before announcment = 5100*240 = 1224000

b)

expected return = (48/240) + 5% = 25%

Share price = 48 / (25% - 5%/2) = 213.33

Value after announcment = 5100*213.33 = 1088000

c)

Share price before = 240

Share price after = 213.33

d)

new dividend = 24,

Price = 213.33

g = r - d/p = (25% - 24 / 213.33)

   = 13.75%

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