Keenan Co. is expected to maintain a constant 5.2% growth rate in its dividends

Question

Keenan Co. is expected to maintain a constant 5.2% growth rate in its dividends indefinitely. If the company has a dividend yield of 6.3%, what is the required return on the company’s stock?
Part 2) They also issue separate preferred stock outstanding that pays a $5.50 dividend every year in perpetuity. If this issue currently sells for $108 per share, what is the required return?


I need help double checking my homework please help if you can. This is all one problem, there are multiple parts to the problem but this is one problem please help if you can (these questions are kind of separate but are part of the same problem, I was a little confused by it, part 2 I don't think necessarily plays off of part 1)

Explanation / Answer

Here we must use the Gordon Growth Model for dividend valuation. Essentially it states that: Price of stock = (dividend x (1 + growth rate))/(required return on equity - growth rate) To solve for required return we are given the dividend yield and growth rate. Lets just assume a $100 price for the stock. At a 6.3% yield, that means the shares pay out $6.30 per share (6.3/100 = yield or 6.3%) we are given 5.2% as the growth rate so now we just plug and chug. 100 = (6.3 x (1.052))/(r-0.052) solving for r we get 11.83% which is our required return on the stock. For Part 2, all a preferred stock does is reduce the growth on the dividend to zero. reducing that shows that the cost of preferred stock is just cost = dividend/price or in this case = 5.50/108 = 5.09%

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