Consider the following stocks: • Stock A is expected to pay a dividend of £4 forever; • Stock B is expected to pay a dividend of £2 next yea

Question

Consider the following stocks: • Stock A is expected to pay a dividend of £4 forever; • Stock B is expected to pay a dividend of £2 next year, £2.50 in year 2, with dividend growth expected to be 3% per annum thereafter. If the required return on similar equities is 9%, calculate the price of each stock.

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Thu Nguyệt 3 years 2021-08-21T14:33:08+00:00 1 Answers 26 views 0

Answers ( )

  1. bonexptip
    0
    2021-08-21T14:34:27+00:00
    Reply

    Answer:

    £44.44

    £40.06

    Step-by-step explanation:

    Stock A

    Price of a perpetual dividend payment = dividend / required return

    4 / 0.09 = 44.44

    Stock B

    price is equal to the present value of the dividend

    Value in the second stage of constant growth =( 2.5 x 1.03) / (0.09 – 0.03) = 42.92

    Cash flow in year 1 = 2

    cash flow in year 2 = 2.5 + 42.92

    I = 9%

    PV = 40.06

    To find the PV using a financial calculator:

    1. Input the cash flow values by pressing the CF button. After inputting the value, press enter and the arrow facing a downward direction.

    2. after inputting all the cash flows, press the NPV button, input the value for I, press enter and the arrow facing a downward direction.  

    3. Press compute  

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