Question

Joe’s firm is fast growing. Therefore, it will pay no dividend for the next 5 years. After that, Joe's firm will initiate dividend payment. The first dividend will be $2 (at the end of the 6^th year) and the dividend will grow at a rate of 5% for 10 years. Then the industry starts to stabilize, and Joe’s firm will pay $3 forever. If the required rate of return is 10%, calculate the stock price.

Answer 1

t	Cash Flow	Discounting Factor [1/(1.1^t)]	PV of Cash Flow (cash flow*discounting factor)
1	0	+		=	0	0.909090909	0
2	0	+		=	0	0.826446281	0
3	0	+		=	0	0.751314801	0
4	0	+		=	0	0.683013455	0
5	0	+		=	0	0.620921323	0
6	0	+		=	2	0.56447393	1.12894786
7	2	+	5%	=	2.1	0.513158118	1.077632048
8	2.1	+	5%	=	2.205	0.46650738	1.028648773
9	2.205	+	5%	=	2.31525	0.424097618	0.981892011
10	2.3153	+	5%	=	2.431013	0.385543289	0.937260556
11	2.431	+	5%	=	2.552563	0.350493899	0.894657803
12	2.5526	+	5%	=	2.680191	0.318630818	0.85399154
13	2.6802	+	5%	=	2.814201	0.28966438	0.815173742
14	2.8142	+	5%	=	2.954911	0.263331254	0.77812039
15	2.9549	+	5%	=	3.102656	0.239392049	0.742751282
16	3.1027	+	5%	=	3.257789	0.217629136	0.70898986
16	Terminal Value = [3/10%]	30	0.217629136	6.528874074
					Expected Share Price today =sum of PVs	16.47693994 = $16.48