Question

Bobby Bonilla Sports Inc is a growing firm that just paid a dividend on its common stock of $0.35 per share. Estimates of future dividend payments are as follow: One year from today, $1.25 per share, Two years from today $1.90 per share, Three years from today $2.40 per share. After the 3rd year (payment of $2.40) dividends are expected to grow at a rate of 5% per year henceforth. If the appropriate rate of return for the risks of owning the stock is 13.5%, what should be the stock price (rounded to two decimal places)

Multiple Choice

• 24.49

• 4.22

• 23.53

• 28.24

• none of the choices is correct

Answer 1

value of stock is present value of dividends

first we will calculate terminal value of dividends at year 3

it can be calculated by dividend discount model

formula is = dn+1/(k-g)

d4 is dividend for year 4 = 2.4+5%= 2.52

k is expected return = 13.5%

g is growth = 5%

T.V = 2.52/(0.135-0.05) = 29.64

year	dividends	[email protected]%	pv of cashflows
1	1.25	0.8810572687	1.101321586
2	1.9	0.7762619108	1.47489763
3	2.4	0.6839311989	1.641434877
T.V	29.64	0.683911989	20.27115135
		price	24.48880545

option 1 is correct