Question

You wish to earn a return of 11% on each of two stocks, A and B. Stock A is expected to pay a dividend of $3 in the upcoming year while stock B is expected to pay a dividend of $2 in the upcoming year. The expected growth rate of dividends for both stocks is 4%. Using the constant growth DDM, the intrinsic value of stock A ____________.a. will be higher than the intrinsic value of stock B
b. will be the same as the intrinsic value of stock B
c. will be less than the intrinsic value of stock B
d. more information is necessary to answer this question

Answer 1

Answer:

The intrinsic value of A -$44.57 is higher than that of B- $ 29.71

Explanation:

The intrinsic value is the present value of he expected future dividend discounted at he required rate of return.

So, we would work out the intrinsic value of the two stocks using the the formula below:

Intrinsic value  = D× (1+r)/(k-g)

Intrinsic value of stock A

D-3, r-11%, g-4%

= 3 ×(1.04)/(0.11-0.04)

=$44.57

Intrinsic value of stock B

D-2, r-11%, g-4%

= 2 ×(1.04)/(0.11-0.04)

= $29.71