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Kirk's Information Inc. Share Valuation

9.3 You are considering an investment in the shares of Kirk's Information Inc. The company is still in its growth phase, so it won't pay dividends for the next few years. Kirk's accountant has determined that their first year's earnings per share (EPS) is expected to be $20. The company expects a return on equity (ROE) of 25% in each of the next 5 years but in the sixth year they expect to earn 20%. In the seventh year and forever into the future, they expect to earn 15%. Also, at the end of the sixth year and every year after that, they expect to pay dividends at a rate of 70% of earnings, retaining the other 30% in the company. Kirk's uses a discount rate of 15%.

TABLE IS IN ATTACHED FILE

B. What would the dividend be in year 8?
C. Calculate the value of all future dividends at the beginning of year 8. (Hint: P7 depends on D8.)
D. What is the present value of P7 at the beginning of year 1?
E. What is the value of the company now, at time 0?

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Solution Preview

Dear Student:

Please open the attached Excel Worksheet for the solution and then follow the explanations below:

A. Fill in the missing items in the following table:

See the table filled in Excel.

B. What would the dividend be in year 8?

Dividend in year 8 = $5.93

In years 1-5 the company retains all earnings in the company and does not pay dividends, thus the ROE (return of equity) and the growth rate of the company are equal. Assuming that 70% of earnings will be paid out as ...

Solution Summary

This solution shows the detailed calculations of the current share valuation of Kirk's Information Inc. Kirk is a company in its growth phase, with higher expected returns of equity (ROE) during the first five years and a slower growth thereafter. The company starts paying dividends in year 6, using a 70% dividend payout rate and a 30% retention rate.

$2.19