Two years ago Clark Company issued a 10-year, 12% annual coupon bond at its par
ID: 2724625 • Letter: T
Question
Two years ago Clark Company issued a 10-year, 12% annual coupon bond at its par value of $1,000. Currently, the bond can be called in 4 years at a price of $1,060 and it sells for $1,100. The company has a risk premium of 3.5%, a beta of 1.6, and the average return on the market is 13%. Clark Company just paid a dividend of $3.00 and the dividends are expected to grow at 7% per year. If you read in the wall street journal that 30- day T-bills are currently yielding 5.5% and 30-year T-Bonds are yielding 10%, what is the required rate of return on this stock if the stock is selling for $23.00 per share? Use the average of the 3 estimates approach. (HINT: to use CAPM approach you need to identify the risk free rate, to use DC
Explanation / Answer
Answer: Ke=Rf+B(Risk Premium)
13%=Rf+1.6*3.5%
Rf=7.4%
Ke=D1/P0+g
=($3*1.07)/$23+7%
=20.96%
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