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Equity Investments - Equity Investments Section 2

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81. A company’s 6% preferred stock has the following features: Par value of $100 and pays quarterly dividends. Current market value $80. The shares are retractable (at par) with the retraction date set for three years from today. Similarly rated preferred issues have an estimated nominal required rate of return of 15%. Analysts expect a sustainable growth rate of 5% for the company’s earnings. The intrinsic value estimate of a share of this preferred issue is closest to:

  • Option : A
  • Explanation : Quarterly dividend = ($100 * 0.06) / 4 = $1.5 a share; Quarterly required return = 15% / 4 = 3.75% Compute PV using a financial calculator: PMT = $1.5; N = 12; FV = $100; I = 3.75%; CPT PV = $78.57.
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82. An Australian bank has an issue of 3.2%, AUD 50 par value, perpetual preferred shares outstanding. The required rate of return on a similar issue is 6.02%. The intrinsic value of the preferred share is closest to:

  • Option : B
  • Explanation : Dividend = 3.2% of 50 = 1.6 Intrinsic value = 1.6 / 0.0602 = 26.58.
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83. The present value of a non-callable, perpetual, preferred share is 117.6. What will an investor be willing to pay for another preferred share which is similar in all respects except it is callable?

  • Option : C
  • Explanation : The investor will pay less for this share because of the risk that it might be called by the issuer.
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84. The following data is available for a company: Par value of preferred stock offered at a 6% dividend rate: $100 Company's sustainable growth rate: 3% Yield on comparable preferred stock issues: 9.5% Investor's marginal tax rate: 40% The value of the company's preferred stock is closest to:

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85. Given that the value of the preferred stock of a company is $56, which of the following is most likely to be the dividend rate for the stock? Assume par value of stock to be $100, tax rate to be 35%, sustainable growth rate to be 5% and required rate of return of 13.4%.

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Equity Investments Section 2