Question

In all cases of common stock, the investor wishes to hold the common stock for various holding periods. 1.Calculate the value of a 10-year, non-coupon bond, which has a par value of S 1,000, pays 9% interest, and the investor wants an 11% return. Explain the meaning of your result. 2. Calculate the value of a coupon bond that matures in 11 years, which has an even value of $ 1.000, pays 8% interest and the investor wants a 9% return. Explain the meaning of your result. 3. Calculate the value of a common share that last year paid a dividend of $ 1.25, a steady growth of 5% is expected, and the investor requires a 9% return. Calculate the value of that common stock for the investor. 4. Calculate the growth of a common stock which is priced at $ 40, will pay a dividend of $ 5 and the investor requires a 10% return. 5. A common share price is expected at the end of the year to be $ 75. This stock last year paid a dividend of s 4 and growth of 9% is expected at the end of the year. The investor expects to hold the common stock for a period of one year and sell it at the end of the year. The investor also expects a retum of 11%. Calculate the value of that common share for that investor. 6. A common share is currently selling for $ 25.00. The company anticipates constant growth of 11% and a dividend at the end of the year of S 2. 7. What will be its retum if the investor buys the stock for S 25.00? 8. If the investor requires a 15% return, should the investor purchase that share? Explain the rationale for your answer. 9. A company's common stock paid a dividend of S 3.00 last year. If the company expects steady growth of 6%, what will be the value of the common share if the investor requires a 15% return? 10. A company has a return per common share (ROE) of 18% and a retention rate is expected for future investments of 40%, what will be the growth for that company?

Answer 1

1. We can use financial calculator for calculation of value of the bond with below key strokes:

N = maturity = 10; FV = par value = $1,000; PMT = interest = $1,000*9% = $90; I/Y = required return = 11% > CPT = compute > PV = value of bond = $882.22

Value of the bond $882.22 is lower than its par value of $1,000 because it pays interest at 9% which is lower than the return required of 11% by investors. so, bond will trade at discount.

2. We can use financial calculator for calculation of value of the bond with below key strokes:

N = maturity = 11; FV = par value = $1,000; PMT = interest = $1,000*8% = $80; I/Y = required return = 9% > CPT = compute > PV = value of bond = $931.95

Value of the bond $931.95 is lower than its par value of $1,000 because it pays interest at 8% which is lower than the return required of 9% by investors. so, bond will trade at discount.

3. Value of common stock = [last dividend paid*(1+dividend growth rate)]/(required return - dividend growth rate)

Value of common stock = [$1.25*(1+0.05)]/(0.09 - 0.05) = ($1.25*1.05)/0.04 = $1.3125‬/0.04 = $32.81

4. Required return = (expected dividend/price of stock) + growth of common stock

0.10 = ($5/$40) + growth of common stock

growth of common stock = 0.10 - ($5/$40) = 0.10 - 0.125‬ = -0.025 or -2.5‬%