Solution 1
Solution 1
Solution 1
A stock is trading at $80 per share. The stock is expected to have a year_x0002_end dividend of
$4 per share (D1 5 $4), and it is expected to grow at some
constant rate g throughout time. The stock’s required rate of return is 14%
(assume the market is in equilibrium with the required return equal to the
expected return). What is your forecast of g?
14% = 4/80 + g
g = 9.00%
Crisp Cookware’s common stock is expected to pay a dividend of $3 a share
at the end of this year (D1 5 $3.00); its beta is 0.8; the risk-free rate is 5.2%;
and the market risk premium is 6%. The dividend is expected to grow at some
constant rate g, and the stock currently sells for $40 a share. Assuming the
market is in equilibrium, what does the market believe will be the stock’s
price at the end of 3 years (i.e., what is P⁄ 3)?
P0 = D1/(Ke-g)
Here
P0 = current market price = $40
Ke = required return, which we can calculate using the CAPM equation
Required return = Rf + (Rm-Rf) X beta = 5.2% + 6%X0.8 = 10%
D1 = expected dividend = $3.00
We get
40 = 3/(10%-g) = 2.5%
Growth rate g is the capital gains yield implying that the stock price will
increase by this growth rate
Price at the end of three years P3 = P0 X (1+g)^3
= 40 X (1.025)^3 = $43.08
What is the required rate of return on a preferred stock with a $50 par value,
a stated annual dividend of 7% of par, and a current market price of (a) $30,
(b) $40, (c) $50, and (d) $70 (assume the market is in equilibrium with the
required return equal to the expected return)?
a) $30 30 = 3.50/rps
Rps = 11.67%
b) $40 40 = 3.50/rps
Rps = 8.75%
c) $50 50 = 3.50/rps
Rps = 7%
d) $70 70 = 3.50/rps
Rps = 5%
Assume that the average firm in your company’s industry is expected to grow
at a constant rate of 6% and that its dividend yield is 7%. Your company is
about as risky as the average firm in the industry and just paid a dividend
(D0
) of $1. You expect that the growth rate of dividends will be 50% during
the first year (g0,1 5 50%) and 25% during the second year (g1,2 5 25%). After
Year 2, dividend growth will be constant at 6%. What is the required rate of
return on your company’s stock? What is the estimated value per share of
your firm’s stock?
D0 = $1,
rs = 7% + 6% = 13%,
g1 = 50%,
g2 = 25%,
gn= 6%
PV of Dividends
Year 1 PVDiv = D1/(1+rs)^1
PvDiv = 1.5/(1.13) = 1.32
D0 = 0
D1 = 0
D2 = 0
D3 = 0.50
D4 = 0.50(1.8) = 0.90
D5 = 0.90(1.8) = 1.62
D6 = 1.62(1.07) = 1.7334
Price at Year 5 or P5
P5 = D6/(rs - g)
P5 = 1.7334/ (0.16-.07)
P5 = 19.26
P(0) 1.5886939
PV of P5 9.1699367
P0 10.76