Herro Corp. preferred stock is selling for $55 per share in the market. This preferred stock has a par value of $40 and a dividend rate of 14 percent.
Answer the following:
1.What is the current yield on the stock?
2. If an investor has a required rate of return of 18 percent, what is the value of the stock for that investor?
3. Should the investor acquire the stock? Explain.
4. Explain why preferred stock is referred to as a hybrid security.
Answer 1.
Annual Dividend = Dividend Rate * Par Value
Annual Dividend = 14% * $40
Annual Dividend = $5.60
Current Yield = Annual Dividend / Current Price
Current Yield = $5.60 / $55.00
Current Yield = 0.1018 or 10.18%
Answer 2.
Value of Stock = Annual Dividend / Required Return
Value of Stock = $5.60 / 0.18
Value of Stock = $31.11
Answer 3.
The investor should not acquire this stock as its market price is higher than its value.
Answer 4.
Preferred stock is hybrid security as it has characteristics of
both debt and common stock.
It pays annual dividend like debt provide annual interest.
Dividend is non-tax deductible like dividend of common stock.
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