You are interested in purchasing the common stock of Azure Corporation. The firm recently paid a dividend of $3.00 per share. It expects its earnings—and, hence, its dividends—to grow at a rate of 7% for the foreseeable future. Currently, similar-risk stocks have required returns of 10%.
a. Given the preceding data, calculate the present value of this security. Use the constant-growth dividend model (Equation 8.8) to find the stock value.
b. One year later, your broker offers to sell you additional shares of Azure at $73.
The most recent dividend paid was $3.21, and the expected growth rate for earnings remains at 7%. If you determine that the appropriate risk premium is 6.74% and you observe that the risk free rate (RF) is currently 5.25%, what is the firm’s current required return?
c. Applying Equation 8.8, determine the value of the stock using the new dividend and required return from part b.
d. Given your calculation in part c, would you buy the additional shares from your broker at $73 per share? Explain.
e. Given your calculation in part c, would you sell your old shares for $73? Explain.