Question

Plastic Pretzels stock recently paid a dividend of $1.39 per share. The dividend growth rate is expected to be 3.60% indefinitely. Stockholders require a return of 11.60% on this stock.

a. What is the current intrinsic value of Plastic Pretzels stock? (Round your answer to 2 decimal places.)

b. What would you expect the price of this stock to be in one year if its current price is equal to its intrinsic value? (Round your answer to 4 decimal places.)

c. If you were to buy Plastic Pretzels stock now and sell it after receiving the dividend one year from now, what would be your holding period return (HPR)? (Round your answer to 2 decimal places.)

d. If you are able to purchase the stock for $19.50 instead of its intrinsic value today, what would be the holding period return? (Round your answer to 2 decimal places. Indicate negative values with a minus sign.)

Answer 1

a) Current price of the stock = Dividend next year/(Required Rate - Growth) = 1.39*(1+3.6%)/(11.60%-3.6%) = 18.0005 or 18.00

b) Expected Price after 1 year = Dividend in year 2/((Required Rate - Growth)) = 1.39*(1+3.6%)²/(11.60%-3.6%) =18.6485

c.) HPR = (Expected price in year 1 + Dividend- Current Price)/Current price = (18.6485 + 1.39 - 18.0005)/18.0005 = 11.32%

d) HPR if purchase price for 19.50 =
(Expected price in year 1 + Dividend- Current Price)/Current price = (18.6485 + 1.39 - 19.50)/19.50 = 2.76%

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