Cooperton Mining just announced it will cut its dividend from
$4.17
to
$ 2.36
per share and use the extra funds to expand. Prior to the announcement, Cooperton's dividends were expected to grow at a
3.2 %
rate, and its share price was
$ 50.68
With the planned expansion, Cooperton's dividends are expected to grow at a
4.5 %
rate. What share price would you expect after the announcement? (Assume that the new expansion does not change Cooperton's risk.) Is the expansion a good investment?
Rate of return can be computed using GGM for price of stock as:
P0 = D1/ (r -g)
D1 = Expected dividend = $ 4.17 x 1.032 = $ 4.30344
r = Rate of return
g = Growth rate in dividend = 0.032
$ 50.68 = $ 4.30344/ (r -0.032)
r -0.032 = $ 4.30344/$ 50.68
= 0.08491397
r = 0.08491397 + 0.032 = 0.11691397
Expected price of share after dividend cut,
P = $ 2.36 x (1+0.045)/ (0.11691397– 0.045)
= $ 2.36 x (1.045)/ (0.11691397– 0.045)
= $ 2.4662/ 0.07191397
= $ 34.29375405 or $ 34.29
Expected price of share after the announcement is $ 34.29
Expansion is not a good investment as it decreased the share price.
Cooperton Mining just announced it will cut its dividend from $4.17 to $ 2.36 per share...
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