Problem 8-33 Stock Valuation [LO1] Most corporations pay quarterly dividends on
ID: 2778092 • Letter: P
Question
Problem 8-33 Stock Valuation [LO1]
Most corporations pay quarterly dividends on their common stock rather than annual dividends. Barring any unusual circumstances during the year, the board raises, lowers, or maintains the current dividend once a year and then pays this dividend out in equal quarterly installments to its shareholders. a. Suppose a company currently pays an annual dividend of $4.00 on its common stock in a single annual installment, and management plans on raising this dividend by 3 percent per year indefinitely. If the required return on this stock is 13 percent, what is the current share price? (Round your answer to 2 decimal places. (e.g., 32.16)) Current share price $ b. Now suppose the company in (a) actually pays its annual dividend in equal quarterly installments; thus, the company has just paid a dividend of $1.000 per share, as it has for the previous three quarters. What is your value for the current share price now? (Hint: Find the equivalent annual end-of-year dividend for each year.) (Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))
Current share price $
Explanation / Answer
Do=4
G=3%
Ke=13%
Price = Do(1+g)/(Ke-g)
= 4x(1+0.03)/(0.13-0.03)
=41.20
Effective quarterly Ke = (1+0.13)^(1/4) -1
= 3.1026%
Effective D1 = 1.03 xFVIFA(3.1026%,4)
=4.3157
Price = D1/(Ke-g)
= 4.3157/(0.13-0.03)
=43.16