Fi515 Homework4

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7-2 Constant Growth Valuation
Boehm Incorporated is expected to pay a $1.50 per share dividend at the end of this year (i.e., D1 = $1.50). The dividend is expected to grow at a constant rate of 7% a year. The required rate of return on the stock, rs, is 15%. What is the value per share of Boehm’s stock? P = D1/(rs – g)

Price = $1.50 / (0.15 - 0.07) = $18.75
7-4 Preferred Stock Valuation
Nick’s Enchiladas Incorporated has preferred stock outstanding that pays a dividend of $5 at the end of each year. The preferred sells for $50 a share. What is the stock’s required rate of return? Vps = Dps/Rps

Vps = $5/$50 = 10%
7-5 Non-constant Growth Valuation
A company currently pays a dividend of $2 per share (D0 = $2). It is estimated that the company’s dividend will grow at a rate of 20% per year for the next 2 years, then at a constant rate of 7% thereafter. The company’s stock has a beta of 1.2, the risk- free rate is 7.5%, and the market risk premium is 4%. What is your estimate of the stock’s current price? Stock Return| 16.50%| =0.075+1.2*(0.115-0.04)| Discounted| | | D1| 2.40| =2*(1.2)^1| 2.06| =2.40/(1+|0.0165|)^1|

D2| 2.88| =2*(1.2)^2| 2.12| =2.88/(1+|0.0165|)^2|
D3| 3.08 | =2.88*(1.07) | | | |
P2| 32.44| =(3.08)/(0.0165-0.07)| 23.90| =32.44/(1+|0.0165|)^2| Stocks Current Price| | 28.08| | |

9-2 After-Tax Cost of Debt
LL Incorporated’s currently outstanding 11% coupon bonds have a yield to maturity of 8%. LL believes it could issue new bonds at par that would provide a similar yield to maturity. If its marginal tax rate is 35%, what is LL’s after-tax cost of debt? rd(1 - T) = 0.08(0.65) = 5.2%.

9-4 Cost of Preferred Stock with Flotation Costs
Burnwood Tech plans to issue some $60 par preferred stock with a 6% dividend. A similar stock is selling on the market for $70. Burnwood must pay flotation costs of 5% of the issue price. What is the cost of the preferred stock? Ep = Dividend/ Market Price –...
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