question archive Consider the following three stocks (of the same risk class): Stock A is expected to provide a dividend of €10 a share forever
Consider the following three stocks (of the same risk class): Stock A is expected to provide a dividend of €10 a share forever
Subject:FinancePrice:2.86 Bought3
Consider the following three stocks (of the same risk class): Stock A is expected to provide a dividend of €10 a share forever. Stock B is expected to pay a dividend of €5 next year. Thereafter, dividend growth is ex- pected to be 4 percent a year forever. Stock C is expected to pay a dividend of €5 next year. Thereafter, dividend growth is ex- pected to be 20 percent a year for 5 years (i.e., until year 6) and zero thereafter. a) Which stock is the most valuable if the market capitalization rate for each stock is 10 percent? b) What if the opportunity cost of capital is 7 percent?
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1.
Stock A=10/10%=100.0000
Stock B=5/(10%-4%)=83.3333
Stock C=5/1.1+5/1.1*(1.2/1.1)+5/1.1*(1.2/1.1)^2+5/1.1*(1.2/1.1)^3+5/1.1*(1.2/1.1)^4+5/1.1*(1.2/1.1)^5+5/1.1*(1.2/1.1)^5*1/(10%-0%)=104.5051
Stock C is the most valuable stock
2.
Stock A=10/7%=142.8571
Stock B=5/(7%-4%)=166.6667
Stock C=5/1.07+5/1.07*(1.2/1.07)+5/1.07*(1.2/1.07)^2+5/1.07*(1.2/1.07)^3+5/1.07*(1.2/1.07)^4+5/1.07*(1.2/1.07)^5+5/1.07*(1.2/1.07)^5*1/(7%-0%)=156.4987
Stock B is the most valuable stock
