Question 3

The stock KZ has an equity beta of 1.8. The market risk premium is 5% and the current risk-free rate is 3%. The company is going to pay the following dividends for the next 4 years: $12 for year 1, $9 for year 2, $6 for year 3 and $2 for year 4. Afterwards, it would maintain a 5% growth rate in dividends forever.

(a) Determine the required rate of return for the stock. (3 marks)

(b) Compute the maximum price you would pay for this stock today. (10 marks)