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1) You are considering an investment in Keller Corp’s stock, which is expected to pay a dividend of $2 a share at the end of the year and has a beta of 9
1) You are considering an investment in Keller Corp’s stock, which is expected to pay a dividend of $2 a share at the end of the year and has a beta of 9.80. The risk-free rate is 14.50%, and the market risk premium is 6%. Keller currently sells for $114 a share, and its dividend is expected to grow at some constant rate g. Assuming the market is in equilibrium, what does the market believe will be the stock price at the end of 3 years?
2) Martell Mining Company’s ore reserves are being depleted, so its sales are falling. Also, because its pit is getting deeper each year, its costs are rising. As a result, the company’s earnings and dividends are declining at the constant rate of 5% per year. If current dividend is $5 and required rate of return 23.90%, what is the value of Martell Mining’s stock?
Expert Solution
1. The price in 3 years is computed as shown below:
= Current price x (1 + growth rate)3
growth rate is computed as follows:
= [ Risk free rate + Beta x Market risk premium ] - Expected dividend / Current price
= [ 14.50% + 9.80 x 6% ] - $ 2 / $ 114
= 73.3% - 1.754385965%
= 71.54561404%
So, the price will be as follows:
= $ 114 x (1 + 0.7154561404)3
= $ 114 x 5.048226777
= $ 575.50
2. The value is computed as follows:
= [ Dividend x (1 - growth rate) ] / (required rate of return + growth rate)
= [ $ 5 x 0.95 ] / (0.2390 + 0.05)
= $ 4.75 / 0.289
= $ 16.44
Feel free to ask in case of any query relating to this question
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