(Stocks) A stock with a beta of 2.95 is expected to pay a $0.98 dividend over...

(Stocks) A stock with a beta of 2.95 is expected to pay a $0.98 dividend over the next year. The dividends are expected to grow at 1.88% per year forever. What is the stock's value per share (to the nearest cent, no $ symbol) if the risk-free rate is 0.32% and the market risk premium (i.e., the difference between the market return and the risk-free rate) is 5.86%?
Note: You first need to find the required rate of return (r) using the CAPM equation.

Solutions

Expert Solution

Required rate of return(CAPM equation) = Risk free rate + Beta*( Market return - Risk free rate)

Or , Required rate of return(CAPM equation) = Risk free rate + Beta * Market risk premium

So, K_e = 0.32% + 2.95 * 5.86%

K_e = 0.32% + 17.287%

K_e = 17.607 %

Now, we will calculate the share price by putting the values in the Gordon Model formula.

Growth Model formula includes three variables (1) D1 or the expected annual dividend per share for the following year, (2) K_e or the required rate of return, and (3) g or the expected dividend growth rate. and share price will be as followed.

where D₁ = 0.98

K_e = 17.607%

g = 1.88%

So, Stock value per share = 6.23 (Rounded off)

jeff jeffy answered 2 years ago

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