Question

Title: Constant Growth Model (new div - CAPM) You are considering buying common stock in Grow...

Title: Constant Growth Model (new div - CAPM)

  1. You are considering buying common stock in Grow On, Inc. You have projected that the next dividend the company will pay will equal $7.60 and that dividends will grow at a rate of 6.0% per year thereafter. The firm's beta is 0.93, the risk-free rate is 6.1%, and the market return is 13.6%. What is the most you should pay for the stock now?

Note: Please solved using TI-84 calculator.

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Homework Answers

Answer #1

Step 1: To find Cost of Equity:

Market Return = 13.6%, Risk Free Rate = 6.1% and Beta factor = 0.93

Market Risk Premium = Market Return - Risk Free rate = 13.6% - 6.1% = 7.5%

Cost of Equity of the Firm = Risk Free Rate + (Market Risk Premium * Beta Factor) = 6.1% + (7.5%*0.93) = 13.08%

Step 1: To find Stock Value:

Dividend proposed = $ 7.60 and perpetual Growth = 6.0%

Stock Value = Dividend / (Cost of Equity - Perpetual Growth) = 7.60 / (13.08% - 6.0%) = $ 107.34

The amount should be paid for stock be $ 107.34

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