Question

Question 1: Kai Zen Motors currently pays a dividend of $2 per share, and this dividend is expected to grow at a 20 percent annual rate for three years, and then at a 11 percent rate for the next two years, after which it is expected to grow at a 6 percent rate forever. What value would you place on the stock if a 16 percent rate of return were required? [5 Marks]

Answer 1

Current Dividend, D0 = $2.00

Growth rate for next 3 years is 20%, for next 2 years is 11% and a constant growth rate (g) of 6% thereafter

D1 = $2.0000 * 1.20 = $2.4000
D2 = $2.4000 * 1.20 = $2.8800
D3 = $2.8800 * 1.20 = $3.4560
D4 = $3.4560 * 1.11 = $3.8362
D5 = $3.8362 * 1.11 = $4.2581
D6 = $4.2581 * 1.06 = $4.5136

Required Return, rs = 16%

P5 = D6 / (rs - g)
P5 = $4.5136 / (0.16 - 0.06)
P5 = $4.5136 / 0.10
P5 = $45.1360

P0 = $2.40/1.16 + $2.88/1.16^2 + $3.456/1.16^3 + $3.8362/1.16^4 + $4.2581/1.16^5 + $45.1360/1.16^5
P0 = $32.06

Therefore, the value of a share is $32.06