[Sarahwills]

The board of directors decided to pay dividends of $0.28 per share next year. After which its dividends are expected to grow at 5 percent per year into the foreseeable future. The beta is 2.1, market rate of return is 9 percent, and T-bills of 6 percent. If the shares are currently selling for $3.50, should the company's shares be purchased?

Based on my own assumption,

1. Step 1: I calculate the required rate of return.
Ke= rf +Beta (rm-rf)= 0.06 +2.1(0.09-0.06)= 0.123= 12.3% (required rate of return)

2. Step 2: If the share's is selling at $3.50, should the shares be purchased?
Should I use:
Current Share price of $3.50 + Dividend of $0. 28 (1+0.05)
(1+0.123)
= 3.38

or should I use:
Current Share price of $3.50 + Dividend of $0. 28
(1+0.123)

= 3.37

Question b: If you have predicted that the current growth rate of 5 percent will reduced to 3 percent from year 4 and the later growth rate will continue into an indefinite future. What would be your decision now?

Based on my own assumption I see that:
D1= $0.28
D2= $0.28 (1+0.05)=$0.294
D3= $0.294 (1+0.05)= $0.3087
D4= $0.3087 (1+0.03)= $0.3178

0.28/ (1.123) + 0.294/ (1.123)^2 + 0.3087/(1.123)3 + [0.3087/ (0.123-0.03)] /(1.123)^3

= $3.044 ( Is this correct? )


Could anyone please help me, and tell me where I am wrong? I am confuse with the question sentences. Thank you!