Question

Q1.

Agarwal Technologies was founded 10 years ago. It has been profitable for the last 5 years, but it has needed all of its earnings to support growth and thus has never paid a dividend. Management has indicated that it plans to pay a $0.25 dividend 3 years from today, then to increase it at a relatively rapid rate for 2 years, and then to increase it at a constant rate of 8.00% thereafter. Management's forecast of the future dividend stream, along with the forecasted growth rates, is shown below. Assuming a required return of 11.00%, what is your estimate of the stock's current value? (12 points)

Year	0	1	2	3	4	5	6
Growth rate	NA	NA	NA	NA	50.00%	25.00%	8.00%
Dividends	$0.00	$0.00	$0.00	$0.25	$0.38	$0.47	$0.51

Q2.

ABC corporation suffers a declining of performance recently and shareholders are concerned that the executives might not do their best to run the company. Therefore, the company consults its board directors and people put up the following suggestions for consideration:

• Increase the percentage of executive compensation that comes in the form of cash and reduce the percentage coming from long-term stock options as managers prefer stable payment.
• Consider to issue shares to institutional investors such as mutual funds, pension funds, and hedge funds to increase the institutional ownership from 30% to 60%.
• Consider to hire more independent directors to sit on board.
• Change the way executive stock options are handled, with all options vesting after 2 years rather than having 20% of the options awarded vest every 2 years over a 10-year period.
• To grant the company’s outside auditing firm a lucrative year-by-year consulting contract with the company.

Please go through each suggestion and briefly state your thoughts on how the suggestion could possibly solve the conflicts between shareholders and the executives, and conclude your recommendations to the shareholders of ABC corporation.

Answer 1

Notes: -

1) All answers are in $

2) PV = Present value( Time value of Money term) = [ (Dividend of given year i.e. year n) /(1+ Rate%)^n]

3) TV = Terminal value ( Used to determine value at the start of constant growth period considering constant growth rate for infinite period = [ Value of next year's dividend (in this case year 6)/ (Rate of return discount rate - dividend growth rate)

4) Stock current value ( Using dividend discount and gorden growth model) = PV of forecasted Dividends + PV of Terminal value