Reading 60: Equity Valuation: Concepts and Basic Tools-LOS d 2011, currently, center, style, label

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Session 14: Equity Analysis and Valuation
Reading 60: Equity Valuation: Concepts and Basic Tools

LOS d: Calculate the intrinsic value of a non-callable, non-convertible preferred stock.

 

 

A preferred stock’s dividend is $5 and the firm’s bonds currently yield 6.25%. The preferred shares are priced to yield 75 basis points below the bond yield. The price of the preferred is closest to:

A) $5.00.

B) $90.91.

C) $80.00.

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Preferred stock yield (K_p) = bond yield – 0.75% = 6.25% ? 0.75% = 5.5%

Value = dividend / K_p = $5 / 0.055 = $90.91.

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Calculate the value of a preferred stock that pays an annual dividend of $5.50 if the current market yield on AAA rated preferred stock is 75 basis points above the current T-Bond rate of 7%.

A) $42.63.

B) $70.97.

C) $78.57.

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k_preferred = base yield + risk premium = 0.07 + 0.0075 = 0.00775

Value_Preferred = Dividend / k_preferred

Value = 5.50 / 0.0775 = $70.97

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If a preferred stock that pays a $11.50 dividend is trading at $88.46, what is the market’s required rate of return for this security?

A) 11.76%.

B) 7.69%.

C) 13.00%.

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From the formula: Value_{Preferred Stock} = D / k_p, we derive k_p = D / Value_{Preferred Stock} = 11.50 / 88.46 = 0.1300, or 13.00%.

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The yield on a company’s 7.5%, $50 par preferred stock is 6%. The value of the preferred stock is closest to:

A) $12.50.

B) $50.00.

C) $62.50.

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The preferred dividend is 0.075($50) = $3.75. The value of the preferred = $3.75 / 0.06 = $62.50.

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Assuming a discount rate of 15%, a preferred stock with a perpetual dividend of $10 is valued at approximately:

A) $1.50.

B) $66.67.

C) $8.70.

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The formula for the value of preferred stock with a perpetual dividend is: D / kp, or 10.0 / 0.15 = $66.67.

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A company has 8 percent preferred stock outstanding with a par value of $100. The required return on the preferred is 5 percent. What is the value of the preferred stock?

A) $152.81.

B) $100.00.

C) $160.00.

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The annual dividend on the preferred is $100(.08) = $8.00. The value of the preferred is $8.00/0.05 = $160.00.

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A company has 6% preferred stock outstanding with a par value of $100. The required return on the preferred is 8%. What is the value of the preferred stock?

A) $75.00.

B) $92.59.

C) $100.00.

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The annual dividend on the preferred is $100(.06) = $6.00. The value of the preferred is $6.00/0.08 = $75.00.

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What is the value of a preferred stock that is expected to pay a $5.00 annual dividend per year forever if similar risk securities are now yielding 8%?

A) $62.50.

B) $40.00.

C) $60.00.

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$5.00/0.08 = $62.50.

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The preferred stock of the Delco Investments Company has a par value of $150 and a dividend of $11.50. A shareholder’s required return on this stock is 14%. What is the maximum price he would pay?

A) $150.00.

B) $82.14.

C) $54.76.

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Value of preferred = D / kp = $11.50 / 0.14 = $82.14