Which of the following statments regarding the cost of preferred stock is true? a.It is typically found by solving for an annuity’s discount rate. b. It is tpically found by solving for an annuity's due's discount rate. C. It is found similarly to a perpetuity's discount rate but with irregular spacing of the dividends. d. It is typically found by solving for a perpetuity's discount rate.
We would expect that, all else being equal, investors would pay less for a stock that they view as having become more risky. Assume a stock has just paid a $2.00-per-share dividend. Analysts believe that future dividends will grow at a 14% rate. The constant dividend growth rate is 4%. What would the stock price be? (Points : 1)
$14.29
$20.00
$20.80
$28.57
To determine the cost of preferred stock, we need to find the discount rate at which the present value of the expected future cash flows from the preferred stock equals the current market price of the stock. Let's analyze each statement to find the true one:
a. It is typically found by solving for an annuity's discount rate.
This statement is incorrect. Preferred stock does not typically have regular fixed cash flows like an annuity, so solving for an annuity's discount rate is not the correct approach.
b. It is typically found by solving for an annuity's due's discount rate.
This statement is also incorrect. The term "annuity's due discount rate" does not apply to the calculation of preferred stock cost.
c. It is found similarly to a perpetuity's discount rate but with irregular spacing of the dividends.
This statement seems to be the most accurate. The cost of preferred stock can be calculated using a similar approach as a perpetuity, where the expected dividends are treated as perpetuity cash flows. However, unlike a perpetuity, the dividends from preferred stock may have irregular spacing, meaning that they do not necessarily occur at equal time intervals.
d. It is typically found by solving for a perpetuity's discount rate.
This statement is incorrect. While the cost of preferred stock calculations may resemble those of a perpetuity, it is not accurate to say that the discount rate is solved for a perpetuity. The irregular timing of preferred stock dividends makes it different from a perpetuity.
Therefore, the correct statement is: c. It is found similarly to a perpetuity's discount rate but with irregular spacing of the dividends.