You want to invest in a stock that pays $2.00 annual cash dividends for the next four years.At the end of the four years,you will sell the stock for $27.00.If you want to earn 11% on this investment,what is a fair price for this stock if you buy it today?

Question

Quizplus · Accepted Answer

To calculate the fair price, we need to find the present value of the dividends and the selling price at 11% interest rate.

Year 1: Present value of $2.00 = $1.80
Year 2: Present value of $2.00 = $1.62
Year 3: Present value of $2.00 = $1.46
Year 4: Present value of $2.00 = $1.31
Present value of selling price = $15.77

Total present value = $1.80 + $1.62 + $1.46 + $1.31 + $15.77 = $22.96

Therefore, according to our calculations, the fair price for this stock is $22.96. The closest option is B ($23.99), which is the best choice.

You Want to Invest in a Stock That Pays $2