Company X has a three-component capital structure: a 10-year 5% bond that pays interest annually (work with a bond with a par value of $100); a perpetual preferred stock paying an annual dividend of $10 and common stock that paid a dividend this year of $1 per share.The current yield on a 10-year riskless bond is 4%, and the credit risk of Company X is such that investors demand a yield to maturity on X bonds of 2% over the riskless rate. For the preferred stock, investors demand a yield of 3% over the 30-year riskless rate (considering that preferred stocks commonly have a perpetual term, and the 30-year bond rate is commonly the longest maturing bond available), which is 6%. For the common stock, assume the required return on the stock (R) is 12%, and the forecast rate of growth of the common dividend (g) is 7% in perpetuity.

 

 

 

1. Calculate the bond price.

    

2. Calculate the accrued interest and the price + accrued interest. Assume the next interest payment occurs in 9 months.

    

3. Calculate the price of the preferred stock (remember it is a perpetual instrument).

    

4. Using the Dividend Discount Model, calculate the common stock price.

    

 

 

Finally, in a brief discussion, analyse the reliability of the dividend discount model, specifically identifying those situations in which the results may be misleading, or the model is not applicable