1.
If a company's equity valuation is lower than its market price, what might this indicate to an
investor?
A) The stock is undervalued and a good buy
B) The stock is overvalued and may be a poor investment
C) The market price is set incorrectly by the stock exchange
D) The company is not paying dividends
2. Which model is most appropriate for valuing a company with no dividends and negative earnings?
A) Dividend Discount Model (DDM)
B) Price-to-Earnings (P/E) Ratio Model
C) Free Cash Flow Model
D) Net Asset Value Model
3. What does the Dividend Discount Model (DDM) assume about dividends?
A) Dividends will decrease over time
B) Dividends will remain constant
C) Dividends are the only returns to shareholders
D) Dividends will grow at a constant rate indefinitely
4. A firm has an internal rate of return of 10%, a cost of equity (k) of 15%, an earnings per share of
$8, and a dividend per share of $2. What is the price of the stock according to Walter's Model?
A) $40
B) $46.67
C) $50
D) $53.33
Calculation: P={D+(r(E-D)/k)}/k
5. An investor requires a 12% return on equity. If a company is expected to pay a dividend of $3 per
share next year and the dividends are expected to grow at 4% per year, what should be the price of
the stock according to the Gordon Growth Model?
A) $25
B) $37.50
C) $40
D) $50
Calculation:
P0 = D1 / (r - g)
P0= $3 / (0.12 - 0.04)
P0 = $3 / 0.08 = $37.50
6. A company’s stock has a current market price of $100 per share, and it is expected to pay a dividend
of $4 per share next year. If the dividends are expected to grow at a rate of 3% per year, what is the
implied required rate of return?
A) 4%
B) 7%
C) 8%
D) 10%
Calculation:
Required Rate of Return (r) = (D1 / P0) + g
r = ($4 / $100) + 0.03
r = 0.04 + 0.03 = 0.07 or 7%
7. A firm has a current Price-to-Book (P/B) ratio of 1.5. If the firm's total equity is $2,000,000 and there
are 500,000 shares outstanding, what is the current market price per share?
A) $3
B) $4
C) $5
D) $6
Calculation:
Book Value per Share = Total Equity / Number of Shares
Book Value per Share = $2,000,000 / 500,000 = $4
Market Price per Share = P/B Ratio * Book Value per Share
Market Price per Share = 1.5 * $4 = $6
8. A company pays a current dividend of $1 (D0) per share. The dividend is expected to grow at a rate
of 5% per year for the next 4 years. After that, the dividend growth rate is expected to drop to 0%
indefinitely. If the required rate of return is 15%, what is the current price of the stock?
A) $6.20
B) $7.10
C) $8.16
D) $9.05
9. Which form of market efficiency suggests that all publicly available information is already reflected
in stock prices?
A) Weak form efficiency
B) Semi-strong form efficiency
C) Strong form efficiency
D) Arbitrage efficiency
10. Which of the following risks is most commonly associated with investing in ADRs and GDRs?
A) Exchange rate risk
B) Inflation risk
C) Default risk
D) Interest rate risk
