Solar Inc. pays a current dividend of $2.50 per shareannually. This dividend is expected to grow at the rate of 3.25% per year forthe foreseeable future. Rating LLC has given Solar Inc. a beta score of 1.05.The risk-free rate of return is currently 1.25% and is expected to remain therefor some time. The current market rate of return is 5.625%.
Answer the following questions:
a. What price would you expect Solar Incorporated's stock to sell?
b. If the risk-free rate of return increases to3.5% and the market rate of return changes to 7.875%, what impact will thathave on the expected price of Solar Inc.'s stock?
c. Solar Inc. is anticipating a significant mergerand acquisition to enhance their productivity and reduce their fixed costs. As a result of this acquisition, management expects their beta to drop to .95.Their dividend growth rate is expected to increase to 4% and remain thereindefinitely. Assuming that all other conditions used in "a" remain the same,would you recommend this acquisition to the board of directors?