Question

a 11 2 A company's stock has a beta of 1.32. The risk free rate is 3.75%, and the expected rate on stocks Is 10%. What is the required return on this stock using CAPM. 9.75% 10.00% 10.25% 10.65% 12.00% C d e 12 a 3 Using the required rate of return calculated in question 1. If a share of this common stock has just paid a dividend of $2.40, and the expected long-run growth rate is 5 percent, value this stock. $52.00 b $47.00 с $43.00 d $36.00 e $23.00

Answer 1

What is the required rate of return on this stock using CAPM?

Answer: 12%

Workings

Formula for calculating required rate of return as per CAPM is as follows;

Required rate of return = RF + (RM – RF) * Beta

Where,

RF = Risk free rate = 3.75%

RM = Expected market return = 10%

Beta = 1.32

Required rate of return calculation

Required rate of return        = RF + (RM – RF) * Beta

                                                = 3.75% + (10% - 3.75%) 1.32

                                                = 12%

What is the Value of the stock?

Answer: $36.00

Working

Formula for calculating Stock value is as follows;

Stock Price = Current Divided (1 + Growth rate) ÷ (Required rate of return – Growth rate)

Where,

Current Divided = $2.40

Growth rate = 5%

Required rate of return = 12% (Calculated above)

Calculation of value of stock

Stock Price     = Current Divided (1 + Growth rate) ÷ (Required rate of return – Growth rate)

                                = $2.40 (1.05) ÷ (.12 - .05)

                                = $2.52 ÷ .07

                                = $36.00