Reference no: EM132484131

Problem: Nano Technologies Ltd's most recent earnings per share were $3.00 and it has a history of paying out 40% of earnings as dividends. This payout ratio is expected to continue in the foreseeable future and Nano's earnings and dividends per share are expected to grow at a constant annual rate of 5% forever. Assume that investors expect a 12% p.a. return on equity from Nano.

a) Your colleague, Noah Tall has suggested that perhaps a constant growth rate of 5% in dividends and earnings is too optimistic. He suggests that it is more likely that earnings would initially decline at a rate of 10% per year over the next 3 years in view of the long development period for Nano's recent high technology venture and then grow at the previously estimated rate of 5% per year. Assuming the dividend payout ratio remains unchanged at 40%, reestimate Nano's price using Noah's assumptions.

b) How sensitive are the price estimates to the assumptions made? Explain. (No calculations required.)