8. Dividend Yield  Div/P  $1.50/$20  0.075 (7.5%).

14. Earnings next year: $4.00 per share.

Dividend next year: $4(1  0.7)  $1.20 per share.

Dividend growth rate: 10% return on new investment  70% retention rate  7%.
1.20
Current stock price: P0   $40
0.10  0.07

26. To compute FCF, deduct taxes from EBIT, add back depreciation, and account for any capital
expenditures and changes in NWC.

EBIT 10
Taxes 3.5
Net Income 6.5
Add back Depr 1
Cap Ex 1.5
Chg NWC 0.5

 FCF 5.5

30. The first step is to determine the value of Heavy Metal Corporation. Since the firm has specific
cash flow estimates for years 1 to 5, these must be discounted to the present. Starting in year 6 the
firm’s cash flows are expected to grow at 4%, so they can be valued using the dividend growth
model. Once the value of the entire firm is estimated, the second step is to determine the value of
an share of equity.

a. V(5)  82  (1.04)/(14%  4%)  $852.80 which is the value of the constant growth in dividends
which starts in year 6.
V(0)  53/1.14  68/1.142  78/1.143  75/1.144  (82  852.8)/1.145  $681.37
which is the value of the entire firm at time 0.
b. P  (681  0  300)/40  $9.53 is the value per share of equity. This is the value of the entire
firm, minus the value of debt, divided by the number of shares outstanding.
The entire firm is worth $681 million dollars. The equity of the firm is worth the entire firm value
less the value of the outstanding debt ($681 million minus $300 million) or $381 million. We now
divide the value of the equity by the number of outstanding shares ($381 million divided by 40
million) to determine a per-share value of $9.53.
34. Since Dell Computers and Hewlett-Packard are in the same industry, one estimate for the value of
Hewlett-Packard is that it should have the same P/E ratio as Dell.

Dell P/E:
27.85
 22.103
1.26
Using Dell’s P/E to value H/P’s earnings:
2.47  22.103  54.59
If Hewlett-Packard had the same P/E (22.103) as Dell, Hewlett-Packard’s stock should sell for $54.59 per
share