The Pancake Corporation recently paid a $3 dividend and is expected to grow at 5% forever. investors generally require an expected return of at least 9% before they'll buy stocks similar to those of Pancake.
a. What is Pancake's intrinsic value?
b. is t a bargain if it's selling at $76 a share?
a)
Dividend (Do) = $3
Growth rate (g) = 5%
Expected return (Ke) = 9%
P = [Do *(1+g)] / (Ke -g)
P = [$3 * (1 + 0.05)] / (0.09 - 0.05)
P = 3.15 / 0.04
P = $78.75
So, intrinsic value = $78.75 per share
b) If selling price $76 , the difference = ($78.75 - $76) = $2.75 which is less than 4% difference.
That's not apparent. Although our calculated intrinsic value exceeds the market price, it only does so by 4%. The modelling technique isn't accurate enough to identify 4% differences. Our result says that the stock has probably been priced about right by the market.
The Pancake Corporation recently paid a $3 dividend and is expected to grow at 5% forever....
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