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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% return on equity from Nano.
Question a. What price should Nano's stock sell for today? Show all calculations.
Question b. 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%, re-estimate Nano's price using Noah's assumptions. Show all calculations.
Question c. Analyze the sensitivity of the price estimates to the assumptions made. (No calculations required.)
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