Question

fast grow corporation is expecting dividends to grow at 20% rate for the next two years....

fast grow corporation is expecting dividends to grow at 20% rate for the next two years. the corporation just paid a $2 dividend and the next dividend will be paid one year from now. after two years of rapid growth, dividends are expected to grow at a constant rate 9%forever. if the required return is 14%, what is the value of fast grow corporation common stock today?
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Answer #1

The formula for the Constant dividend growth model is

Stock Price= Dividend for next period / (Required rate of Return - Growth Rate)

we need to discount all the future dividends that are expected in the coming two years and then the expected stock price

Stock price now = Present Value of Dividend after 1 year + Present Value of Dividend after 2 years + Present value of stock as per constant growth model

Dividend after 1 year = 2(1 + 20%) = 2.4

Dividend after 2 years = 2.4 (1+20%) = 2.88

Dividend after 3 years = 2.88 (1+20%) = 3.456

Stock Price after end of year 2= Dividend for next period / (Required rate of Return - Growth Rate)

= 3.456 / (0.14 - 0.09)

= 69.12

Stock price now = 2.4/ (1 + 0.14) + 2.88 / (1 + 0.14)^2 + 69.12 / (1 + 0.14)^2

= 57.5069

The value of the stock today is $59.5069

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