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Common Stock Value

P7-11 Common stock value-Constant growth Elk County Telephone has paid the
dividends shown in the following table over the past 6 years.

Year Dividend per share
2006 $2.87
2005 2.76
2004 2.60
2003 2.46
2002 2.37
2001 2.25
The firm's dividend per share next year is expected to be $3.02.
a. If you can earn 13% on similar-risk investments, what is the most you would be willing to pay per share?
b. If you can earn only 10% on similar-risk investments, what is the most you would be willing to pay per share?
c. Compare and contrast your findings in parts a and b, and discuss the impact of changing risk on share value.

Solution Preview

a. If you can earn 13% on similar-risk investments, what is the most you would be willing to pay per share?

What we would be willing to pay is the present value of all dividends. Using the constant growth model
PV of all dividends (Price of the share) = D1/(rs-g)
Where
D1 = expected dividend next year = $3.02
rs = required return = 13%
g = dividend growth rate. We estimate ...

Solution Summary

The solution explains how to calculate the common stock value and the impact of changing risk on share value.

$2.19