Question

Preferred stock valuation Jones Design wishes to estimate the value of its outstanding preferred stock. The preferred issue has a par value of ​$100 and pays an annual dividend of ​$5.40 per share. ​ Similar-risk preferred stocks are currently earning an annual rate of return of 10.4​%.

a) What is the market value of the outstanding preferred​ stock?
b) If an investor purchases the preferred stock at the value calculated in part a​, how much does she gain or lose per share if she sells the stock when the required return on​ similar-risk preferred stocks has risen to 12.2​%?

Answer 1

(a) $51.92

(b) She will face a loss of $7.66

Step-by-step explanation:

(a) Market Value of Preferred Stock:

= Dividend ÷ Required Return

= $5.40 ÷ 10.4%

= $51.92

(b) If she sells the stock when the required return on​ similar-risk preferred stocks has risen to 12.2​%.

Market value of the securities:

= $5.40 ÷ 12.2%

= $44.26

therefore,

Market value of the securities - Market Value of Preferred Stock

= $44.26 - $51.92

= $7.66

She will face a loss of $7.66