Answer-first summary for fast verification
Answer: greater than the value of Preference Share 2.
## Explanation For perpetual preference shares, the value is calculated using the formula: \[ V = \frac{D}{r} \] Where: - \( V \) = Value of the preference share - \( D \) = Annual dividend per share - \( r \) = Required rate of return **For Preference Share 1:** - \( D_1 = \$6 \) - \( r_1 = 8\% = 0.08 \) - \( V_1 = \frac{\$6}{0.08} = \$75 \) **For Preference Share 2:** - \( D_2 = \$8 \) - \( r_2 = 11\% = 0.11 \) - \( V_2 = \frac{\$8}{0.11} = \$72.73 \) **Comparison:** - \( V_1 = \$75 \) - \( V_2 = \$72.73 \) - \( V_1 > V_2 \) Therefore, the value of Preference Share 1 is **greater than** the value of Preference Share 2. **Key Insight:** Even though Preference Share 2 has a higher dividend ($8 vs $6), it also has a significantly higher required rate of return (11% vs 8%). The higher discount rate more than offsets the higher dividend, resulting in a lower present value for Preference Share 2.
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An analyst gathers the following information about two companies' non-callable, non-convertible perpetual preference shares:
| Preference Share 1 | Preference Share 2 | |
|---|---|---|
| Par value | $100 | $100 |
| Required rate of return | 8% | 11% |
| Annual dividend per share | $6 | $8 |
The value of Preference Share 1 is:
A
less than the value of Preference Share 2.
B
equal to the value of Preference Share 2.
C
greater than the value of Preference Share 2.
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