Question

Western auto inc. pays a​ $1.77 preferred dividend every quarter and will maintain this policy forever. what price should you pay for one share of preferred stock if you want an annual return of​ 9.25% on your​ investment?

a. ​$74.54

Answer 1

The answer is $76.54 Let us use 3 months as our period. Thus, we restate the annual required rate of9.25% as a quarterly (or three-month) rate of = 2.3125% (or 0.023125). Applying the constant dividend model with infinite horizon and with the quarterly rate of return and a quarterly dividend of $1.77, we get: = $76.54.

Price of Preferred Stock = Dividend / required return of rate - growth rate