Mr Steven is considering a cash purchase of the stock of Grips Tool. During the year just
Question:
Mr Steven is considering a cash purchase of the stock of Grips Tool. During the year just completed, Grips paid cash dividends of $1.55 per share. Grips' earnings and dividends are expected to grow at 10% per year for the next 3 years, after which they are expected to grow at 6% per year to infinity. Market data indicates a beta of 1.5 for Grips Tool. The expected risk premium on market portfolio is 5%.
You are required to;
(i) Calculate the required rate of return for Grips Tool'sshares using the CAPM assuming a risk-free rate of 4.5%.(1 Point)
(ii) What is the maximum price per share that Steven should pay for Grips Tool's ordinary shares?(4 Points)
(iii) If Grips Tool's ordinary shares are traded in the market at $29.38 what would be your recommendation to Steven? Justify your answer.(1 Point)
(iv) List briefly explain the main limitation of the dividend valuation model as a share valuation method.(2 Points)