The document discusses various aspects of common stock valuation including: 1) Common stockholders own corporations and elect directors while receiving income from dividends and capital gains or losses. 2) The intrinsic value of a stock is based on assumptions about future cash flows discounted at the appropriate rate, though these are difficult to forecast precisely. 3) Growth models use predicted growth rates to value stocks since exact future prices and dividends cannot be known.

1. The Valuation and Characteristics of Stock

7. The Basis of Value Example 8.1 7 Q: Joe Simmons is interested in the stock of Teltex Corp. He feels it is going to have two very good years because of a government contract, but may not do well after that. Joe thinks the stock will pay a dividend of $2 next year and $3.50 the year after. By then he believes it will be selling for $75 a share, at which price he'll sell anything he buys now. People who have invested in stocks like Teltex are currently earning returns of 12%. What is the most Joe should be willing to pay for a share of Teltex? Example

15. Constant Normal Growth— The Gordon Model Example 8.3 15 Q: Atlas Motors is expected to grow at a constant rate of 6% a year into the indefinite future. It recently paid a dividends of $2.25 a share. The rate of return on stocks similar to Atlas is about 11%. What should a share of Atlas Motors sell for today? A: Example

19. Two Stage Growth Example 8.5 19 Q: Zylon Corporation’s stock is selling for $48 a share according to The Wall Street Journal. We’ve heard a rumor that the firm will make an exciting new product announcement next week. By studying the industry, we’ve concluded that this new product will support an overall company growth rate of 20% for about two years. After that, we feel growth will slow rapidly and level off at about 6%. The firm currently pays an annual dividend of $2.00, which can be expected to grow with the company. The rate of return on stocks like Zylon is approximately 10%. Is Zylon a good buy at $48? A: We’ll estimate what we think Zylon should be worth given our expectations about growth. Example

20. Two Stage Growth Example 8.5 20 We’ll develop a schedule of expected dividend payments: Next, we’ll use the Gordon model at the point in time where the growth rate changes and constant growth begins. That’s year 2, so: Example 6% $3.05 3 20% $2.88 2 20% $2.40 1 Growth Expected Dividend Year

21. Two Stage Growth Example 8.5 21 Then we take the present value of D 1 , D 2 and P 2 : Example Compare $67.57 to the listed price of $48.00. If we are correct in our assumptions, Zylon should be worth about $20 more than it is selling for in the market, so we should buy Zylon’s stock.

28. Preferred Stock Example 8.6 28 Q: Roman Industries’ $6 preferred originally sold for $50. Interest rates on similar issues are now 9%. What should Roman’s preferred sell for today? A: Just substitute the new market interest rate into the preferred stock valuation model to determine today’s price: Example