# lecture 23 - Business Finance Lecture 23 Review of the...

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121 Business Finance Lecture 23 Review of the Previous Lecture Bond Valuation Determinants of Term Structure Real Rate of Interest Expected inflation Interest Rate Risk Bond Yields and the Yield Curve Equity Markets and Stock Valuation Common Stock Valuation Topics under Discussion Some Special Cases in Stock Valuation Zero growth Stocks Constant Growth Stocks Non-Constant Growth Stocks Zero Growth Stocks A share of common stock in a company with a constant dividend is termed as zero growth type of stocks. Which implies: D 1 = D 2 = D 3 = D = constant So the value of the stock is: P 0 = D D D _ D _ (1 + R) 1 (1 + R) 2 (1 + R) 3 (1 + R) 4 Since dividend is always the same, the stock can be viewed as an ordinary perpetuity with a cash flow equal to D every period. So the per share value is P 0 = D/R where R is the required rate of return CVP corporation has a policy of paying a \$10 per share dividend every year. If this policy is to continue indefinitely, what is the value of a share of stock if the required rate of return is 20%? Since the stock amounts to be a perpetuity, value of the share is \$10/0.20 = \$50 per share Constant Growth Stocks

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122 Stocks, the dividend for which grow at a steady rate termed as growth rate g. If we let D 0 be the dividend just paid, then the next dividend, D 1 is D 1 = D 0 x (1 + g) Dividend in two periods is : D 2 = D 1 x (1 + g) = [D 0 x (1 + g)] x (1 + g) = D 0 x (1 + g) 2 We can repeat this process to generalize it for any number of periods as D t = D 0 x (1 + g) t An asset with cash flows that grow at a constant rate forever is called a growing perpetuity
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## This note was uploaded on 08/04/2011 for the course ACCT 501 taught by Professor Na during the Spring '11 term at Virtual University of Pakistan.

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lecture 23 - Business Finance Lecture 23 Review of the...

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