What is the intrinsic value of a preference share that has been paying a semi-annual dividend of $1.3 per share, and has an equity cost of capital equal to 11.2% p.a. compounding annually? (Round your answer in dollars to 2 decimal places, e.g. put 1204.42 if your answer is 1204.4243.)
Question
What is the intrinsic value of a preference share that has been paying a semi-annual dividend of $1.3 per share, and has an equity cost of capital equal to 11.2% p.a. compounding annually? (Round your answer in dollars to 2 decimal places, e.g. put 1204.42 if your answer is 1204.4243.)
Solution
The intrinsic value of a preference share can be calculated using the formula for the present value of a perpetuity. A perpetuity is a type of annuity that pays periodic payments indefinitely. Preference shares are considered as perpetuities because they pay a fixed dividend indefinitely.
The formula for the present value of a perpetuity is:
PV = D / r
where:
- PV is the present value or intrinsic value of the preference share
- D is the dividend payment per period
- r is the discount rate or cost of equity
Given in the problem, we have:
- D = 2.6 annual dividend
- r = 11.2% p.a. = 0.112
Substituting these values into the formula, we get:
PV = 23.21
Therefore, the intrinsic value of the preference share is approximately $23.21.
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