Question

Magnetic Corporation expects dividends to grow at a rate of 19.94% for the next two years. After two years, dividends are expected to grow at a constant rate of 4.52%, indefinitely. Magnetic's required rate of return is 14.53% and they paid a $1.32 dividend today. Compute the following for Magnetic Corporation's common stock:

a) Dividend at end of year 1:

b) Dividend at end of year 2:

c) Dividend at end of year 3:

d) Price of stock at end of year 2:

e) Price of stock today:

Answer 1

Aswer:

Dividend paid D0=1.32

Dividend growth rate for next two years G=19.94%

g=4.52%

r=14.53%

A)

Dividend at end of 1st year D1= D0*(1+G)=1.32*(1+19.94%)=1.583

B)

Dividend at end of 2nd year D2= D0*(1+G)^2=1.32*(1+19.94%)^2=1.899

C)

Dividend at end of 3rd year D3= D0*(1+G)^2*(1+g)=1.32*(1+19.94%)^2*(1+4.52%)=1.984

D)

Stock price at end of 2nd year S2=D3/(r-g)= 1.984/(14.53%-4.52%)=$19.83

E)

Current Stock price S0=D1/(1+r)+D2/(1+r)^2+D3/(r-g)

S0=1.583/(1+14.53%)+1.899/(1+14.53%)^2+1.984/(14.53%-4.52%)=22.66