You believe WSU stock will pay dividends of $1.00, $1.25, and $1.50 at the end of each of the next 3 years. Immediately after receiving the third dividend, you will sell the stock for $28.50. If the appropriate discount rate is 12%, you should be willing to pay $20.75 for this stock.

Question

Quizplus · Accepted Answer

To determine the fair value of the stock, we need to calculate the present value of all 3 dividends and the sale price using the appropriate discount rate of 12%.

PV(Dividend Year 1) = $1.00 / (1 + 0.12)^1 = $0.8929
PV(Dividend Year 2) = $1.25 / (1 + 0.12)^2 = $1.0068
PV(Dividend Year 3) = $1.50 / (1 + 0.12)^3 = $1.2605
PV(Sale Price) = $28.50 / (1 + 0.12)^3 = $18.3580

Total Present Value = $0.8929 + $1.0068 + $1.2605 + $18.3580 = $21.5182

Therefore, the fair value of the stock is $21.5182, which is higher than the price of $20.75. Therefore, the statement is false.

You Believe WSU Stock Will Pay Dividends of $1