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Interior Airline is expected to pay a dividend of $3 in the upcoming year. Dividends are expected to grow at the rate of 10% per year. The risk-free rate of return is 4%, and the expected return on the market portfolio is 13%. The stock of Interior Airline has a beta of 4. Using the constant-growth DDM, the intrinsic value of the stock is _________.

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Kolawole845

Answer:

Intrinsic value of the stock is = $10

Explanation:

The value of a stock is the present value of the expected dividends discounted at the required rate of return.

We can determine the intrinsic value of a stock  using the steps below:

Step 1

Calculate the cost of equity using the capital asset pricing model (CAPM)

E(r)= Rf +β(Rm-Rf)

E(r) =? , Rf- 4%, Rm- 13%, β- 4

E(r) = 4%+ 4× (13- 4)%

      = 40%

Step 2

Calculate the value of stock

Price of stock = D(1+g)/(r-g)

r- 40%, g- 10%, D(1+g)- 3  (dividend payable in year 1)

Value of stock = 3/(0.4-0.1)

                       = $10

Intrinsic value of the stock is = $10

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