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Beta using the DDM and CAPM

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Cache creek manufacturing company is expected to pay a dividend of $4.20 in the upcoming year. Dividend are expected to grow at the rtate of 8% per year. The risk free rate of return is 4% and the expected return on the market portfolio is 14%. Investors use the CAPM to compute the market capitalization rate on the stock, and the constant growth DDM to determine the intrinsic value of the stock. The stock is trading in the market today at $84.00. Using the constant growth DDM and the CAPM, the beta of the stock is

a. 1.4
b. 0.9
c. 0.8
d. 0.5

Please explain your answer and show all steps to the solution

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Solution Preview

D1 = 4.20
g = 8%
P = 84
by DDM, the stock return rate is
R = ...

Solution Summary

Cache creek manufacturing company is expected to pay a dividend of $4.20 in the upcoming year. Dividend are expected to grow at the rtate of 8% per year. The risk free rate of return is 4% and the expected return on the market portfolio is 14%. Investors use the CAPM to compute the market capitalization rate on the stock, and the constant growth DDM to determine the intrinsic value of the stock. The stock is trading in the market today at $84.00. Using the constant growth DDM and the CAPM, the beta of the stock is

$2.19
See Also This Related BrainMass Solution

Dividend Growth, CAPM or APT

I need help with writing a report explaining the challenge of estimating or coming with a good "feel" for the "cost of equity capital" or the rate of return that you feel your company investors require as the minimum rate of return that they expect of require my company (General Mills) to earn on their investment in the shares of the company. There are several asset pricing models used to estimate the cost of equity capital for this module in the background materials. After reading through the background materials, write a 5 to 6 pages report for the board of directors for General Mills by responding to the following tasks:

Which of the three models (dividend growth, CAPM, or APT) is the best one for estimating the required rate of return (or discount rate) of General Mills company? Based on your analysis and findings, what would you recommend to the board of directors of your SLP company?

In your paper, include discussion of the following issues:

1. Ease of use of these three models

2. Accuracy of each of these three models

3. How realistic the assumptions of each model are

For this paper I need to take a clear stand and pick one of these three models to defend to the Board of Directors. You cannot tell the Board of Directors that "I like all three models," they want you to come to them with a decisive choice of just one model.

Part II

The cost of equity (discount rate) can also be determined by using the Capital Asset Pricing Model (CAPM). Calculating the cost of equity using CAPM model is often more difficult than using the dividend discount model. The companies' financial statements do not show the cost of equity.

The following table shows necessary (hypothetical) information to calculate the cost of equity by using CAPM model:

Company Listing RRF RM Ã?j

Nike Inc. NYSE: NKE 0.20% 4.49% 0.79

Sony Corporation NYSE: SNE 0.20% 6.83% 1.98

McDonald's Corporation NYSE: MCD 0.20% 2.94% 0.29

E(rj )= RRF + b(RM - RRF)

E(rj ) - The cost of equity

RRF - Risk free rate of return)

Ã?j - Beta of the security

RM - Return on market portfolio)

Based on the above information, which company has higher cost of equity? Why? Please explain your reasoning in brief.

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