Question

Suppose the risk-free rate is 2.78% and an analyst assumes a market risk premium of 6.68%. Firm A just paid a dividend of $1.24 per share. The analyst estimates the β of Firm A to be 1.49 and estimates the dividend growth rate to be 4.71% forever. Firm A has 272.00 million shares outstanding. Firm B just paid a dividend of $1.74 per share. The analyst estimates the β of Firm B to be 0.89 and believes that dividends will grow at 2.56% forever. Firm B has 197.00 million shares outstanding. What is the value of Firm B?

Answer 1

Step-1:Valuation of each share of firm
As per dividend discount model,
Current value of share		=	D0*(1+g)/(K-g)			Where,
		=	1.74*(1+0.0256)/(0.0873-0.0256)			D0	Last paid dividend	$       1.74
		=	$       28.92			g	Growth rate	2.56%
						K	Cost of equity	8.73%
Working:
As per capital asset pricing method,
Cost of equity		=	Risk free rate + β *market risk premium
		=	2.78%+0.89*6.68%
		=	8.73%
Step-2:Valuation of firm B
Value of firm B		=	Number of shares		*	Value per share
		=	197.00	million	*	$    28.92
		=	$ 5,697.81	million