Question

You own 2,310 common shares of a company, which will pay a dividend of $1.87 per share next year and a liquidating dividend of $54.20 per share in two years form today. The require return on the common shares is 8.26%. You want to create a homemade dividend so that you can get an equal dollar amount of total dividends in each of the two years. What will be the amount of homemade dividend in the second year?

Question 16 options:

	$56,127
	$57,686
	$59,245
	$60,805
	$62,364

Answer 1

Solution

Answer-62364

Here we have dividends being paid in 2 years

Present value of dividends paid in 2 years = Present value of dividend recieved in first year+PV of dividend recieved in second year

Dividend recieved first year=number of shares*dividend per share=2310*1.87=4319.70

Dividend recieved at end of second year=number of shares*dividend per share=54.2*2310=125202.0

Now the formula for Present value is

Present value=Cashflow/(1+r)^n

where

r=Req rate of return of common stocks=8.26%

n=period in which cashflow occurs

Therefore Present value of dividends recieved in 2 years=4319.70/(1+.0826)^1+125202/(1+.0826)^2

=110815.6869

The calculation for equal annual payments of homemade dividends is given below

The present value of the dividends recieved in 2 years is equal to present value of 2 annuity payments of the homemade dividends

The present value of dividends paid in 2 years=Annual dividend payment of homemade dividend*((1-(1/(1+i)^m))/i)

where

i=rate of retun require=8.26%

m=number of periods=2

110815.6869=Annual dividend payment*((1-(1/(1+.0826)^2))/.0826)

Solving we get Annual dividend payment (Home made dividend)=62363.64

Thus homemade dividend in second year=62364

If you are satisfied with answer,please give a thumbs up