Page 488 - Introduction to Business

462 PART 5 Finance

(sales price purchase price) dividends
Rate of return on stock
purchase price
Using this formula, we get

($23 $20) $2
Rate of return on stock
$20
$5

$20
0.25 or 25 percent
Here the capital gains rate of return, or yield, is $3/$20 0.15, or 15 percent. The
dividend yield is $2/$20 0.10, or 10 percent. The sum of the capital gains yield and
dividend yield is the rate of return on the stock. Most firms keep dividends fairly sta-
ble over time and only cut them in the event of abnormally low net income after
taxes. Thus, we can infer that rates of return on stocks change primarily due to
changing prices over time. Exhibit 13.7 shows how to read stock market quotations
of prices and dividends for a firm in the newspaper.
How can an investor determine if a particular stock will pay a good rate of
return? To assess expected returns on a stock, it is necessary to estimate the future
profitability of the issuing firm. Profitable firms can pay healthy dividends and can
attract investors to buy their stock. Increased demand for a stock by investors will
increase its share prices. Another important aspect for investors to evaluate is the
risk of the firm. Are its profits stable or volatile over time? Do the firm’s revenues fall
so low at times that it could default on its debt and go bankrupt? Consider two firms
A and B with net incomes after taxes over a five-year period as follows:

Year 1 Year 2 Year 3 Year 4 Year 5 Average Profit

Firm A $10 $10 $10 $10 $10 $50/5 years $10/year
Firm B $10 $14 $6 $12 $8 $50/5 years $10/year

While firms A and B have equal average profitability, investors would not con-
sider these two firms to have equal risk. Firm B has more unstable profits than firm
A. For this reason investors would not pay as high a price for B compared to A. We
EXHIBIT 13.7 can infer that firms with less risk will have higher share prices, holding average

How to Read Stock Market profitability the same. In summary, firms can increase their share prices by both
Quotations in the increasing profits and reducing risk.
Newspaper

Stock price divided by the
Annual dividend firm’s average earnings Change in the closing
paid per share per share of stock over price from the last
Company name last year the past four quarters trading day to today

52 Weeks Yld Vol Net
Hi Lo Stock Sym Div % PE 100$ Hi Lo Close Chg
50.66 28.20 DmlrChry l DCX .91 2.6 15 7200 35.18 30.51 33.52 –.60
32.50 17.23 McDonalds MCD .25 1.5 13 45692 19.84 15.92 16.48 +.02
59.90 40.21 SonyCp SNE .16 .4 … 2560 43.01 42.60 42.91 –.86

Highest and Ticker symbol Dividend 7200 means The highest, lowest,
lowest stock used to paid divided that 720,000 and last price for the
price over the identify firm by market shares of stock stock during the day
last year price of stock traded that day

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