Question

# You expect Sharp Steel Company to pay a dividend of \$2.37 per share next year. You...

You expect Sharp Steel Company to pay a dividend of \$2.37 per share next year. You expect the dividend to grow 10% the following year, 7% the year after that, and then level off to a growth rate of 4% indefinitely. Sharp has a beta of 1.4, the risk-free rate of return is 1.1% and the market risk premium is 5.7%.

a) What is Sharp Steel's stock worth?

b) If Sharp's stock was currently trading for \$62.10, would you buy it?

(a) first we need to ke i.e, equalization rate.

Ke = 1.1% + 1.4(5.7%)

= 9.08%

 Year dividend present value Factor Discounted Cash flow 1 \$2.37×1.1 = \$2.61 1/1.0908 = 0.92 \$2.40 2 \$2.61×1.07 = \$2.79 1/(1.0908)^2 = 0.84 \$2.34 3 \$2.79×1.04 = \$2.90 1/(1.0908)^3 = 0.77 \$2.23 Price at the end of year 3 \$2.90/(9.08%-4%) = \$57.08 1/(1.0908)^3) = 0.77 \$43.95 Total price \$50.93

Stock worth is \$50.92

(b) If Sharp's stock was currently trading for \$62.10, we should sell it as the stock is overpriced as per the market. Hence sell the stock

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