Question

5. The risk-free rate is 3.61% and the market risk premium is 5.09%. A stock with a β of 0.83 just paid a dividend of $2.45. The dividend is expected to grow at 22.68% for five years and then grow at 4.62% forever. What is the value of the stock?

Answer 1

D0 = 2.45

D1 = 2.45 * 1.2268 = 3.0057

D2 = 3.0057 * 1.2268 = 3.6873

D3 = 3.6873 * 1.2268= 4.5236

D4 = 4.5236 * 1.2268 = 5.5496

D5 = 5.5496 * 1.2268 = 6.8082

D6 = 6.8082 * (1 + 4.62%) = 7.1228

Terminal value of dividend at end of Year 5 (T5) = D6/(R-G)

R = Risk free rate + Beta * Market risk premium

= 3.61% + 0.83 * 5.09%

= 7.8347%

T5 = 7.1228/(7.8347%-4.62%)

= 221.57

Price of stock today = 3.0057/(1+7.8347%) + 3.6873/(1+7.8347%)^2 + 4.5236/(1+7.8347%)^3 + 5.5496/(1+7.8347%)^4 + (6.8082 + 221.57)/(1+7.8347%)^5

= 170.30

Price of stock = 170.30