Question

having the following information:- A $100.0 par value preferred stock with 10.0% dividend & a 15.0% required return. A $1.0 par value common stock with $3.0 EPS; a 5.0% risk-free rate; a 6.0% Market Risk-Premium; a 40.0% pay-out ratio; a 5.0% constant growth in EPS & dividend per share (g). A 20 years 6.0% coupon debenture (Non-guaranteed corporate bond) with a Yield-to-maturity (YTM) of 5.0%. Answer the following questions:-

1 - The preferred stock's price is ???

2 - The common stock's price is ???

3 - The required return on the market is ????

4 - The debenture's price is ????

5 - The debenture's discount / premium is???

Answer 1

1.
Return on preferred stock = Annual dividend / Share price
15% = ($100 * 10%) / Share price
15% = $10 / share price
Share price = $10 / 15% = $66.67

Preferred stock's price = $66.67

2.
Dividend per share = EPS * Payout ratio = $3 * 40% = $1.2
Cost of equity = Risk free rate + beta * market risk premium

Beta is not given in this question. Assume beta = 1

Cost of equity = 5% + 1 * 6% = 11%

Common stock's price = (D0 * (1+g)) / (Ke - g)
= ($1.2 * 1.05) / (0.11 - 0.05)
= $1.26 / 0.06
= $21

3.
Required return on the market = Market risk premium + risk free rate = 6% + 5% = 11%

4.
FV = 1000
Nper = 20
Rate = 5%
PMT = 1000 * 6% = 60

Debenture's price is calculated by using the following excel formula:
=PV(rate,nper,pmt,fv)
=PV(5%,20,-60,-1000)
= $1,124.62

Debenture's price = $1,124.62

5.
Premium = $1,124.62 - $1000 = $124.62