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Notable Books (NB) is a family controlled company that dominates the retail book market. NB has...

Notable Books (NB) is a family controlled company that dominates the retail book market. NB has book value of $10 per share, is expected to earn $2.00 forever, and pays out all of its earnings as dividends. Its required return on equity is 12.5 percent. Value the stock of NB using the following: A. Dividend discount model. B. Residual income model.

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Answer #1

A)Dividend discount model :

Value of stock = Dividend /Required return on equity

                       = 2 /.125

                       = $ 16 per share

Dividend is equals to earnings since all earnings are distributed as dividend.

B)Residual income model :

Earnings 2
less:Equity charge (10 Book value * 12.5% required return) -1.25
Residual income .75 per share
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