Self Corporation stock, of which you own 500 shares, will pay a
$2-per-share dividend one year from today. Two years from now Andahl
will close its doors; stockholders will receive liquidating dividends
of $17.5375 per share.The required rate of return on Andahl stock is
15 percent.

a. What is the current price of Self stock?
b. You prefer to receive equal amounts of money in each of the next
two years. How will
you accomplish this?

The present value of the stock, which will equal its current share
price, as calculated by taking the dividends and discounting them back
to the current time.  For the first dividend, this is accomplished by
dividing it by (1+r) where r is the required rate of return.  For the
second dividend, this is accomplished by dividing it by (1+r)^2. 
Therefore, you will add 1.739 to 13.261, resulting in $15 per share.

In order to receive approximately equal amounts of money in Years 1
and 2, you would need to sell a portion of shares at the end of Year 1
and retain the rest.  The share price in year 1 once the dividend is
paid is $17.5375/1.15 or $15.25.  You want to balance the formula
500*$2 + $15.25X = $17.5375(500-X).  X is the amount to be in Year 1
after the dividend is paid, and 500 -X is the amount to be held until
the company is liquidated.  Solving for X results in a share quantity
of 237 in whole shares.  That results in cash receipts of $4614.25 in
year 1 and $4612.36 in year 2.

Sincerely,

Wonko

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Request for Answer Clarification by passion540-ga on 18 Jul 2005 16:18 PDT

I am unclear on what X represents.  Please simplify.

500*$2 + $15.25X = $17.5375(500-X).

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Clarification of Answer by wonko-ga on 18 Jul 2005 18:20 PDT

X is the number of shares to be sold in Year 1.  500-X is the number
of shares to be sold in Year 2.

Sincerely,

Wonko