Step 1:
I used the "U.S. 10-Year Treasury" bond rate from the financial data that was given for this assignment to get the risk free rate which is 4.50%. The market risk premium is assumed at 7.5%.
Step 2:
By using the financial data given for this assignment I completed the subsequent questions (American InterContinental University Online, 2007);
1) IBM's beta (b) = 1.64.
2) IBM's current annual dividend = $ 0.80.
3) IBM's 3-year dividend growth rate (g) = 8.2%.
4) Industry P/E = $23.2.
5) IBM's EPS = $4.87.
Step 3:
With the information I have now from steps 1 and 2 I can calculate the required rate of return for IBM using the Capital Asset Pricing Model (CAPM);
kj = RF + [bj * (km ? RF)]
Where:
kj = required return on asset
RF = risk-free rate of return, commonly measured by the return on a U.S. Treasury bill = 4.50% as of September 06, 2007, 8:30pm, CST.
bj = beta coefficient or index of nondiversifiable risk for asset j = 1.64.
km - RF = market return; return on the market portfolio of assets = 7.5%.
Calculation (Gitman, 2006):
Required rate of return = 4.50% + (1.64 * 7.5%) = 4.50% + 12.3 = 19.8%.
Step 4:
Using the Constant-Growth Model (CGM), I have calculated IBM's current stock price;
PO = D1 / ks ? g
Where:
D1 = expected dividend per share one period from now = $.87.
ks = required rate of return (CAPM) = 19.8%.
g = growth rate in dividends = 8.2%.
Calcul ...