Question

Fort Davis Feather Co. has a beta of 1.11. The S&P 500 Indes is 11.5% and the rate on Treasury securities is 6.3%. The firm paid a $3.70 dividend last year and raises dividends by 5% each year. Calculate the value of the stock based on the appropriate dividend model.

Answer 1

Given that,

expected return on S&P 500 Index, Market rate Rm = 11.50%

Rate on T-securities, risk free rate Rf = 6.3%

Beta of Fort Davis Feather Co. is 1.11

So, using CAPM, cost of equity of the company is

Ke = Rf + Beta*(Rm - Rf) = 6.3 + 1.11*(11.5 - 6.3) = 12.07%

Firm paid last dividend D0 = $3.70

dividend growth rate g = 5%

So, Value of stock today using constant dividend growth model is

P0 = D0*(1+g)/(Ke - g) = 3.7*1.05/(0.1207-0.05) = $54.93

So, Current value of stock = $54.93