Assume that the stock of Perry Corporation has just paid an annual dividend of $5,and that this dividend is expected to grow for the next 2 years at an annual growth rate of 20%,and then grow indefinitely at an annual growth rate of 10%.If the risk-free rate is 5%,the expected return on the market is 15%,and the firm's beta is 0.80,how much should you be willing to pay for this stock?

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Quizplus · Accepted Answer

Step 1 - Calculate the required rate of return using CAPM. k_e = k_F + β(k_M - k_F ) k_e= .05 + .8(.15 - .05) k_e = 13% Step 2 - Calculate the present value of the high-growth cash flows. PV = 11ea7fdb_fbf6_00ae_a768_794436df87b0_TB2902_11 = $5.31 PV = 11ea7fdb_fbf6_00af_a768_6fcc00106142_TB2902_11 = $5.64 Step 3 - Add these cash flows together. 5.31 + 5.64 = $10.95 Step 4 - Calculate the constant-growth cash flows and discount them back to today. 11ea7fdb_fbf6_00b0_a768_b1e5768382b4_TB2902_11 = 11ea7fdb_fbf6_00b1_a768_3197ab294cc7_TB2902_11 11ea7fdb_fbf6_00b2_a768_33d16ae8e7c5_TB2902_11 = 11ea7fdb_fbf6_27c3_a768_0bc2d7c4fa93_TB2902_11 = $264 PV = 11ea7fdb_fbf6_27c4_a768_d9a743bd1bcc_TB2902_11 = $206.75 Step 5 - Add the two discounted totals together to get the stock price today. 10.95 + 206.75 = $217.70

Assume That the Stock of Perry Corporation Has Just Paid