Question

Super Carpeting Inc. just paid a dividend of $2.64 and its dividend is expected to grow at a constant rate of 5.50% per year. If the required return on Super's stock is 13.75% what is the intristic value of Super's shares?
A- $48.00 per share
B- $32.00 per share
C- $33.76 per share
D- $38.40 per share
Which of the following statements is true about the constant growth model?
A- the constant growth model can be used if a stock's expected constant growth rate is more than its required return
B- The constant growth model can be used if a stock's expected constant growth rateis less than its required return
Use the constant growth model to calculate the appropriate values to complete the following statements about Super Carpeting Inc.
If Super stock is equilibrium, the current expected dividend yield on the stock will be ______ per share
Super's expected stock price one year from today will be ____ per share
If Super's stock is in equilibrium, the current expected capital gains yield on Supers stock will be _____

Answer 1

Answer:

1. C. $33.76 per share

2. B- The constant growth model can be used if a stock's expected constant growth rateis less than its required return

3. 8.25% ; $35.62 ; 5.5%

Explanation:

1. Using the Constant Growth Model to calculate the intrinsic value would be best given the above values.

The formula is;

Value = Next Dividend / (Required Return - Growth rate)

Value = (2.64 * ( 1 + 5.5%)) / ( 13.75% - 5.5%)

Value = 2.7852/8.25%

Value = $33.76

2. Going by the formula, if the expected growth rate is more than the required return, the intrinsic value would be a negative number and a stock's price cannot go below 0. The growth rate has to be less than the required return for this to work.

3. At Equilibrium, the stock dividend is growing as it should.

Dividend Yield should therefore be;

= Next Dividend / Stock Value * 100

= (2.7852 / 33.76) * 100

= 8.25%

Stock Price should grow at the growth rate so;

= 33.76 * ( 1 + 0.055)

= $35.62

Gains yield refers to what rate the stock will change in value. Growth rate is 5.5% so that will be the answer.