Principles of Managerial Finance

CHAPTER 7 Stock Valuation 343

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c. Judging on the basis of your findings in parts aand b,what impact does risk

have on value? Explain.

7–7 Common stock value—Zero growth Kelsey Drums, Inc., is a well-established

supplier of fine percussion instruments to orchestras all over the United States.

The company’s class A common stock has paid a dividend of $5.00 per share per

year for the last 15 years. Management expects to continue to pay at that rate

for the foreseeable future. Sally Talbot purchased 100 shares of Kelsey class A

common 10 years ago at a time when the required rate of return for the stock

was 16%. She wants to sell her shares today. The current required rate of return

for the stock is 12%. How much capital gain or loss will she have on her shares?

7–8 Preferred stock valuation Jones Design wishes to estimate the value of its out-

standing preferred stock. The preferred issue has an $80 par value and pays an

annual dividend of $6.40 per share. Similar-risk preferred stocks are currently

earning a 9.3% annual rate of return.

a. What is the market value of the outstanding preferred stock?

b. If an investor purchases the preferred stock at the value calculated in part a,

how much does she gain or lose per share if she sells the stock when the

required return on similar-risk preferreds has risen to 10.5%? Explain.

7–9 Common stock value—Constant growth Use the constant-growth model

(Gordon model) to find the value of each firm shown in the following table.

7–10 Common stock value—Constant growth McCracken Roofing, Inc., common

stock paid a dividend of $1.20 per share last year. The company expects earn-

ings and dividends to grow at a rate of 5% per year for the foreseeable future.

a. What required rate of return for this stock would result in a price per share

of $28?

b. If McCracken had both earnings growth and dividend growth at a rate of

10%, what required rate of return would result in a price per share of $28?

7–11 Common stock value—Constant growth Elk County Telephone has paid the

dividends shown in the following table over the past 6 years.

Year Dividend per share

2003 $2.87

2002 2.76

2001 2.60

2000 2.46

1999 2.37

1998 2.25

Firm Dividend expected next year Dividend growth rate Required return

A $1.20 8% 13%

B 4.00 5 15

C 0.65 10 14

D 6.00 8 9

E 2.25 8 20