E-Eyes has a new issue of preferred stock it calls 20/20 preferred. The stock will pay a $20 dividend per year, but the first dividend will not be paid until 20 years from today. If you require a return of 7.3 percent on this stock, how much should you pay today?

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valetta valetta · Answer 1 · 2019-10-15T11:27:52+02:00

Answer:

$71.83

Explanation:

Given:

Dividends paid per year = $20

Required return = 7.3% = 0.073

Now,

The price of stock at the start of the 20th year = [tex]\frac{\textup{Dividend per year}}{\textup{Required return}}[/tex]

or

The price of stock at the start of the 20th year = [tex]\frac{\textup{20}}{\textup{0.073}}[/tex]

or

The price of stock at the start of the 20th year = $273.97

Therefore,

The present value of stock = [tex]\frac{\textup{Future Value}}{\textup{(1+r)}^n}[/tex]

here, n = 19 years (as dividends is not paid until 20 years)

thus,

The present value of stock = [tex]\frac{\textup{273.97}}{\textup{(1+0.073)}^{19}}[/tex]

or

The present value of stock = $71.83

Hence,

The amount paid today should be $71.83