Question

You want to estimate the price of a share of preferred stock that receives an annual dividend of $6.25. You predict that the stock will be called in 8 years and you will be paid $110 for your share. If you require a 7% rate of return on your investment, what is the maximum price you will pay for the stock? (Round to two decimal places.)

Answer #1

Price or intrinsic value of the preferred stock will be the present value of cash inflows from the preferred stock, i.e., present value of future dividends and call price using 7% as the discount rate (required return).

Preferred stock price = $6.25 x PVIFA (7%, 8) + $110 x PVIF (7%,
8) = $6.25 x 5.97129850606 + $110 x 0.58200910453 = $101.3416172 or
**$101.34**

Note : PVIF = present value interest factor of $1 = 1 / (1 +
r)^{n}

PVIFA = present value interest factor annuity of $1 =

where, *r* is the discount rate, *n* being the no.
of years

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