11. Valuing preferred stock

Companies that have preferred stock outstanding promise to pay a stated dividend for an infinite period. Preferred stock is treated like a perpetuity if the payments last forever. Preferred stocks are considered to be a hybrid of a stock and a bond. For example, one of the major differences between preferred shares and bonds is that the issuing companies can suspend the payment of their preferred dividends without throwing the company into bankruptcy.

However, similar to bonds, preferred stockholders receive a fixed paymenttheir dividendbefore the companys residual earnings are paid out to its common stockholders and, as with common stock, preferred stockholders can benefit from an appreciation in the value of the firms stock securities.

Consider the following case of Wellington Industries:

Wellington Industries pays an annual dividend rate of 8.00% on its preferred stock that currently returns 10.72% and has a par value of $100.00 per share. What is the value of Wellingtons preferred stock?

$111.94 per share

$89.56 per share

$74.63 per share

$100.00 per share

Suppose that due to high inflation, interest rates rise and pull the preferred stocks yield to 13.94%. The value of the preferred stock will

(DECREASE OR INCREASE) .