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Melissa is trying to value the stock of Generic Utility Inc., which is clearly not growing at all. Generic declared and paid a $5 dividend last year. The required rate of return for utility stock is 11%, but Melissa is unsure about the financial reporting integrity of Generic’s finance team. She decides to add an extra 1% “credibility” risk premium to the required return as part of her valuation analysis.

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a. What is the value of Generic’s stock, assuming that the financials are trustworthy?

b. What is the value of Generic’s stock, assuming that Melissa includes the extra 1% “credibility” risk premium?

c. What is the difference between the values found in parts a and b, and how might one interpret that difference?

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