Metatrend’s stock will generate earnings of $5 per share this year. The discount rate for the stock is 15% and the rate of return on reinvested earnings is also 15%.
a. Find both the growth rate of dividends and the price of the stock if the company reinvests the following fraction of its earnings in the firm: (1) 0%, (2) 40%, (3) 60%.
b. Redo part (a) assuming that the rate of return on reinvested earnings is 20%. What is the present value of growth opportunities for each reinvestment rate?
c. Considering your answers to parts (a) and (b), can you briefly state the difference between companies experiencing growth versus companies with growth opportunities?