Question

Ralph Industries just paid a dividend of D0 = $1. 5. Analysts expect the company's dividend to grow by 30% this year, by 10% in Year 2, and at a constant rate of 5% in Year 3 and thereafter. The required return on this low-risk stock is 9%. What is the best estimate of the stock’s current market value? *

a) $50.20

b) $50.98

c) $60.98

d) $45.80

Answer 1

Dividend in year zero (D0) = $ 1.5

Dividend in year one (D1) = $ 1.5 (1 + growth rate @30%)

= 1.5 * 1.3 = $ 1.95

Dividend in year one (D2) = $ 1.95 (1 + growth rate @10%)

= 1.95 * 1.1 = $ 2.145

Dividend in year one (D3) = $ 2.145 (1 + growth rate @5%)

= 2.145* 1.05 = $ 2.25225

The terminal value (TV) of the stock according To gordon growth formula = D3/ ( Rate of retun - constant growth)

=2.25225 / ( 0.09 - 0.05)

= $ 56.30625

The intrinsic value is calculated by discounting the dividend and TV to present value acc to the below table:

	Value	PV factor @9%	Value * Pv factor
D1 (year 1)	1.95	0.917431193	1.788990826
D2 (year 2)	2.145	0.841679993	1.805403586
Terminal value(year 2)	56.30625	0.841679993	47.39184412
Total intrinsic value	50.98623853

Correct option B) 50.98