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In: Finance

 Hamlin Steel Company wishes to determine the value of Craft​ Foundry, a firm that it is...

 Hamlin Steel Company wishes to determine the value of Craft​ Foundry, a firm that it is considering acquiring for cash. Hamlin wishes to determine the applicable discount rate to use as an input to the​ constant-growth valuation model. ​ Craft's stock is not publicly traded. After studying the required returns of firms similar to Craft that are publicly​ traded, Hamlin believes that an appropriate risk premium on Craft stock is about 7​%. The​ risk-free rate is currently 4​%. Craft's dividend per share for each of the past 6 years is shown in the following​ table:

Year

Dividend per Share

2019

​$3.43

2018

​$3.24

2017

​$3.06

2016

​$2.88

2015

​$2.72

2014

​$2.57

a. Given that Craft is expected to pay a dividend of ​$3.64 next​ year, determine the maximum cash price that Hamlin should pay for each share of Craft. ​(Hint: Round the growth rate to the nearest whole​ percent.)

b. Describe the effect on the resulting value of Craft​ from:

​(1) A decrease in its dividend growth rate of​ 2% from that exhibited over the 2014​-2019 period.

​(2) A decrease in its risk premium to 6​%.

_________________________________________________________________

a. The required return on​ Craft's stock is ____%. ​(Round to the nearest whole​ percentage.)

The maximum cash price that Hamlin should pay for each share of Craft is $_________.​(Round to the nearest​ cent.)

b.​ (1) If the dividend growth rate decreases by​ 2%, the maximum cash price that Hamlin should pay for each share of Craft is ​$___________.​(Round to the nearest​ cent.)

​(2) If the risk premium decreases to 6​%, the required return on​ Craft's stock is ______​%. (Round to the nearest whole​ percentage.)

With a 10​% required​ return, the maximum cash price that Hamlin should pay for each share of Craft is ​$_________. ​(Round to the nearest​ cent.)

Price is a function of the current​ dividend, (1)____________​, and the​ risk-free rate, and the​ company-specific (2) ________. For​ Craft, the lowering of the dividend growth rate (3) ____________ future cash flows resulting in (4) ___________ in share price. The decrease in the risk premium reflected (5) ___________ in risk leading to (6) __________ in share price.  ​(Select the best answers from the​ drop-down menus.)

(1)

expected dividend growth rate

expected risk-free growth rate

expected risk premium growth rate

(2)

risk premium

risk discount

risk-free rate

(3)

increased

reduced

(4)

an increase

a reduction

(5)

an increase

a reduction

(6)

an increase

a reduction

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