The Carpetto’s stock currently sells for $23 per share, will pay a dividend of $2.14 at the end ofthe current year, and the dividend is expected to grow at 7 percent per year in the future.a. Using the DDM approach, what is its cost of common equity?b. If the firm’s beta is 1.6, the risk-free rate is 9 percent, and the average return on themarket is 13 percent, what will be the firm’s cost of common equity using the CAPMapproach?c. If the estimated cost of equity is not the same using the CAPM and DDM approaches,how we can decide on the proper value for cost of equity? Explain.
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.
The Carpetto’s stock currently sells for $23 per share, will pay a dividend of $2.14 at the end of
the current year, and the dividend is expected to grow at 7 percent per year in the future.
a. Using the
b. If the firm’s beta is 1.6, the risk-free rate is 9 percent, and the average return on the
market is 13 percent, what will be the firm’s cost of common equity using the CAPM
approach?
c. If the estimated
how we can decide on the proper value for cost of equity? Explain.
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