Question

(Common stock valuation) The common stock of NCP paid $ 1.45 in dividends last year. Dividends are expected to grow at an annual rate of 5.50 percent for an indefinite number of years. a. If NCP's current market price is $ 27.23 per share, what is the stock's expected rate of return? b. If your required rate of return is 7.5 percent, what is the value of the stock for you? c. Should you make the investment? (Round to two decimal places.)

Answer #1

1.The expected rate of return is calculated using the dividend discount model. It is calculated using the below formula:

Ke=D1/Po+g

where:

D1= Next year’s dividend

Po=Current stock price

g=Firm’s growth rate

Ke = $1.45*(1 + 0.0550) / $27.23 + 0.0550

= $1.5298 / $27.23 + 0.0550

= 0.0562 + 0.0550

= 0.1112*100

=
**11.12%.**

b.Value of the stock =D1/(r-g)

where:

D1=next dividend payment

r=interest rate

g=firm’s expected growth rate

Value of the stock today= $1.5298 / 0.075 - 0.055

= $1.5298 / 0.020

=
**$76.49.**

c.The expected rate of return exceeds the required rate of return, therefore, the value of the security is greater than the current market price. Thus, I should buy the stock.

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b. If your required rate of return is 11.3 percent, what is the
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c. Should you make the investment?
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ii. If your required rate of return is 10.5 percent, what is the
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subsequent 2 years, and then level off into perpetuity at a growth
rate of 2 percent per year. What should be the value of the firm’s
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b. systematic risk
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