The Stambaugh Corporation currently has earnings per share of $9.70. The company

ID: 2820370 • Letter: T

Question

The Stambaugh Corporation currently has earnings per share of $9.70. The company has no growth and pays out all earnings as dividends. It has a new project that will require an investment of $2.25 per share in one year. The project is only a two-year project, and it will increase earnings in the two years following the investment by $3.05 and $3.35, respectively. Investors require a return of 12 percent on Stambaugh stock.

a. What is the value per share of the company’s stock assuming the firm does not undertake the investment opportunity? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

b. If the company does undertake the investment, what is the value per share now? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

c. The company undertakes the investment. What will the price per share be four years from today? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

Explanation / Answer

value per share before project

EPS/discount rate

9.7/12%

80.83333

value per share after project

value before project + NPV of the project

80.83+3.14

83.97

NPV of the project

-2.25+(3.05)/1.12^1 + (3.35)/1.12^2

3.143814

After the project is over, and the earning increase no longer exists, the price of the stock will revert back to 80.33