Bensen Co. paid a dividend of $5.25 on its common stock yesterday. The company's dividends are expected to grow at a constant rate of 8.5% indefinitely. The required rate of return on this stock is 15.5%. You observe a market price of $78.50 for the stock. Should you purchase this stock

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Business

Catherine Melendez

19 February, 12:43

Bensen Co. paid a dividend of $5.25 on its common stock yesterday. The company's dividends are expected to grow at a constant rate of 8.5% indefinitely. The required rate of return on this stock is 15.5%. You observe a market price of $78.50 for the stock. Should you purchase this stock

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Kelsey · Answer 1

I would purchase the share as he actual value is more than its current market price

Explanation:

expected dividend in perpetuity = present dividend * growth rate

present dividend is $5.25

growth rate is 8.5%

expected dividend = $5.25 * (1+8.5%)

expected dividend=$5.70

in determining the actual value of the stock we the stock price formula below:

price=expected dividend / (expected return-growth rate)

price=$5.70 / (15.5%-8.5%)

price=$81.43

In actual terms the stock should be selling for $81.43, hence a buy decision at $78.50 would be a welcoming as the stock is selling beyond its real worth.