Question

Suppose the risk-free rate is 3.65% and an analyst assumes a market risk premium of 7.31%. Firm A just paid a dividend of $1.02 per share. The analyst estimates the β of Firm A to be 1.37 and estimates the dividend growth rate to be 4.61% forever. Firm A has 277.00 million shares outstanding. Firm B just paid a dividend of $1.85 per share. The analyst estimates the β of Firm B to be 0.85 and believes that dividends will grow at 2.58% forever. Firm B has 185.00 million shares outstanding. What is the value of Firm A?

Round to 2 decimal places

Answer 1

What is the value of Firm A?

Value of the firm = Price per share * Number of shares outstanding.

Answer: $3,265.91 Million

Number of shares outstanding = 277.00 million (given in the problem)

Share price is not given in the problem, with help of information given in the problem we can find out the share price.

Formula for calculating the price (P)

Where,

D₀ = Current Dividend per share = $1.02

g = Dividend growth rate = 4.61% (i.e. 0.0461)

r = cost of equity or required rate of return

In the question, required rate of return (r) is not provided so we need to find the same using the following formula.

Required rate of return (r) = Risk free rate + (Beta * Market risk premium)

Risk free rate =3.65%

Beta = 1.37

Market risk premium = 7.31%

Required rate of return (r) = 3.65% + (1.37 *7.31%)

                                                = 3.65% + 10.0147

                                                =13.66%

Calculation of price per share (P) =

Price per share (P) = 1.02 (1+0.0461) ÷ (0.1366 – 0.0461)

                        = 1.067022 ÷ 0.0905

                        = 11.79029

                        = $11.7903

Value of the firm = price per share * Number of shares outstanding.

                                    = $11.7903 * 277 million

                             = $3,265.91 Million