Question

The Home Bank of Canada want to sell preferred stock at $100 per share. A very similar issue of preferred stock already outstanding has a price of $40 per share and offers a dividend of $1 every quarter. What dividend would the Home Bank have to offer if its preferred stock is going to sell?

Answer 1

The Home Bank of Canada should offer a dividend that maintains a competitive yield of 10%, which would result in a $10 annual dividend for a $100 share to match the yield of a similar existing stock.

Step-by-step explanation:

To calculate the dividend the Home Bank of Canada must offer on its new preferred stock to be competitive, we will use the information provided by the current stock's price and dividend amount.

The existing preferred stock price is $40 per share with a dividend of $1 every quarter, which amounts to an annual dividend of $4 on a $40 investment. This is a dividend yield of 10% ($4 dividend / $40 price). To be competitive, the Home Bank will need to provide a similar yield; therefore, for a $100 share price, the annual dividend should be 10% of the new price. The annual dividend required would hence be $10 ($100 x 10%).