Question

Star Light & Power increases its dividend 3.8 percent per year every year. This utility is valued using a discount rate of 9 percent, and the stock currently sells for $38 per share. If you buy a share of stock today and hold on to it for at least three years, what do you expect the value of your dividend check to be three years from today?

Answer 1

P₀ = D₁ / (k_e - g)

where,

P₀ = Price of the stock today = $38

D₁ = Expected dividend in year 1

k_e = Cost of Equity = Discount rate = 9%

g = growth rate of dividend = 3.8%

Therefore,

38 = D₁ / (0.09 - 0.038)

38 = D₁ / 0.052

D₁ = 38 * 0.052 = 1.976

Implying that Dividend in year 1 is expected to be $1.976

Therefore, dividend in year 3 = D₃ = D₁ * (1 + g) * (1 + g)

D₃ = 1.976 * (1.038) * (1.038)

D₃ = 2.129

Therefore, dividend expected in 3 years from today is $2.129