Question

vINet Library issued $85 par value preferred stock that pays a 7.25% dividend rate per year. The stock has a beta of 1.13. The current risk-free rate is 2.1% and the market return is 11.2%. Assuming that CAPM holds, what is the intrinsic value of this preferred stock?

Answer 1

Answer:

$49.77

Explanation:

For computing the intrinsic value, first we have to determine the current year dividend and expected rate of return which is shown below:

The computation of the  dividend is shown below:

= $85 × 7.25%

= $6.1625

And, the expected rate of return would be

= Risk-free rate of return + Beta × (Market rate of return - Risk-free rate of return)

= 2.1% + 1.13 × (11.2% - 2.1%)  

= 2.1% + 1.13 × 9.1%  

= 2.1% + 10.283%

= 12.38%

Now the intrinsic value would be

= (Dividend) ÷ (Required rate of return)

= $6.1625 ÷ 12.38%

= $49.77