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Capitalisation rate and price of share

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A firm has 80 million shares on issue. Investors expect its end of year share price to be $3.90 and that it will pay a $0.25 dividend at the end of the year. The capitalisation rate which investors apply to the firm is 10%. There are no taxes or imperfections.

a. If the company has an operating cash flow during the year of $4 million and undertakes capital expenditures of $9 million, how many new shares will the firm have to issue to fund its expenditures?

b. How would your answer change if the directors suddenly announced that the dividend would be $0.20 rather than $0.25 (and this has no signalling effects)?

Could you explain it step by step please.

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Solution Summary

This provides the steps to calculate the price of share using capitalisation rate

Solution Preview

According to the capitalization rate the firm's share will be priced at = Dividend/Capitalization rate
Dividend/Capitalization rate =.25/.10= $2.5 per share
New shares to ...

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