Malik Brothers has a stock price of $45. In the fiscal year just ended, dividends were $2.00. Earnings per share and dividends are expected to increase at an annual rate of 9 percent. The risk-free rate is 5 percent, the market risk premium is 6.4 percent and the beta on Malik’s stock is 1.25. Malik’s target capital structure is 40% debt and 60% common equity. Malik’s tax rate is 40 percent. New common stock can be sold to net $35 per share after flotation costs. Delta can sell bonds that mature in 25 years with a par value of $1,000 and an 8% coupon rate paid annually for $960. Calculate the required return on the firm’s stock using the discounted cash flow approach.
Dividend Valuation
Dividend refers to a reward or cash that a company gives to its shareholders out of the profits. Dividends can be issued in various forms such as cash payment, stocks, or in any other form as per the company norms. It is usually a part of the profit that the company shares with its shareholders.
Dividend Discount Model
Dividend payments are generally paid to investors or shareholders of a company when the company earns profit for the year, thus representing growth. The dividend discount model is an important method used to forecast the price of a company’s stock. It is based on the computation methodology that the present value of all its future dividends is equivalent to the value of the company.
Capital Gains Yield
It may be referred to as the earnings generated on an investment over a particular period of time. It is generally expressed as a percentage and includes some dividends or interest earned by holding a particular security. Cases, where it is higher normally, indicate the higher income and lower risk. It is mostly computed on an annual basis and is different from the total return on investment. In case it becomes too high, indicates that either the stock prices are going down or the company is paying higher dividends.
Stock Valuation
In simple words, stock valuation is a tool to calculate the current price, or value, of a company. It is used to not only calculate the value of the company but help an investor decide if they want to buy, sell or hold a company's stocks.
Q.
Malik Brothers has a stock price of $45. In the fiscal year just ended, dividends were $2.00. Earnings per share and dividends are expected to increase at an annual rate of 9 percent. The risk-free rate is 5 percent, the market risk premium is 6.4 percent and the beta on Malik’s stock is 1.25. Malik’s target capital structure is 40% debt and 60% common equity. Malik’s tax rate is 40 percent. New common stock can be sold to net $35 per share after flotation costs. Delta can sell bonds that mature in 25 years with a par value of $1,000 and an 8% coupon rate paid annually for $960.
Calculate the required return on the firm’s stock using the discounted cash flow approach.
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