Question

Kruger Associates is considering a substantial investment in the stock of McIntyre Enterprises. McIntyre currently (time 0) pays a dividend of $2.1 per share. This dividend is expected to grow at 15 percent per year for the next 3 years and 10 percent per year for the following 3 years. McIntyre’s marginal tax rate is 40 percent. Kruger expects the value of the McIntyre stock to increase by 50 percent between now and the beginning of year 5. If Kruger requires a 14 percent rate of return on investments of this type, what value would Kruger place on the McIntyre stock? Use Table II to answer the question. Do not round intermediate calculations. Round your answer to the nearest cent.

Please answer by using the formulas and without using the tables!! Please show steps in each equation.

Answer 1

P0 =$ 135.77

Working notes for the above answer is as under

Here , No terminal growth rate provided, however there is an expectation that the stock priceat the end of year 4 (beginning of year 5) is 2.1 times the current stock price (i.e. an increase of 50%)

Discount dividends 1 to 4 inclusive and forecast price at time 4 to determine valueof stock today as follow

Year1

D1

=D0(1+g)

=2.1(1.15)

=2.415

Year2

D2

=D1(1+g)

=2.415(1.15)

=2.77725

Year2

D3

=D2(1+g)

=2.777(1.15)

=3.1935

D4

=D3(1+g)

=3.1938(1.15)

=3.672

P4

=2.1*P0

Prasent value

Period	Dividend	PV factoe At 14%
	A	B	C=A*B
1	2.415	0.8772	2.118438
2	2.777	0.7695	2.1369015
3	3.1935	0.6750	2.1556125
4	3.6729	0.5921	2.17472409

P0=2.1184+2.1369+2.1556+2.1747+2.1P0 1/(1+0.14)⁴

P0-2.1P0 1/(1+0.14)⁴=2.1184+2.1369+2.1556+2.1747

P0 (1)-1.2433 =8.5856

P0 =8.5856 / 1.2433

P0 =$ 6.90