The board of directors of API, a relatively new electronics manufacturer, has de

Question

The board of directors of API, a relatively new electronics manufacturer, has decided to beginning paying a common stock dividend to increase the attractiveness of the stock in the free market. The board plans to pay $2.45 per share in the coming year (i.e., next year) and anticipates that its future dividends will increase at an annual rate consistent with that experienced over the period from 2009 - 2012 (see below). The company currently has a beta of 1.5, the rate of return for the market is expected to be 8% and the risk-free rate is currently 3%. Given this scenario, what is the current value of API's common stock? If the current market price is $48.00 per share, should you purchase this stock. Briefly, explain your answer. (HINT: This problem requires a three-part calculation, involving the CAPM & constant growth models, to solve it). USE MS EXCEL TO CONDUCT YOUR CALCULATIONS

Year  Dividend

2012    $2.32

2011    $2.21

2010    $2.10

2009    $2.00

Explanation / Answer

Using CAPM

r = rf+ beta*(rm-rf) = 3% +1.5*(8%-3%) = 10.5%

Grwoth rate from 2009-2012

g = (2.32/2)^(1/3)-1 = 5.07%

constant growth models

Price = D1/(r-g)

= 2.45/(10.5%-5.07%)= $45.13

current value of API's common stock = $45.13

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