Buster Ice Cream has issued preferred stock that pays an annual dividend of $3.0
ID: 2805065 • Letter: B
Question
Buster Ice Cream has issued preferred stock that pays an annual dividend of $3.00. Suppose that the stock is currently trading for $20 per share and investors’ required rate of return is 12 percent. Which of the following makes the most economic sense for investors?
Sell any shares they own because the stock is currently underpriced
Sell any shares they own because the stock is currently overpriced
They should be indifferent.
Buy additional shares because the stock is currently overpriced
Buy additional shares because the stock is currently underpriced
Explanation / Answer
Actual return on preferred stock:
= $3/$20
= 15%
Stock is yielding more than the required return. It is underpriced.
Hence, correct option is Buy additional shares because the stock is currently underpriced.
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