Question

Suppose a firm is expected to increase dividends by 35% in one year, by 27% in...

Suppose a firm is expected to increase dividends by 35% in one year, by 27% in two years, and by 20% in three years. After that, dividends will increase at a rate of 8% per year indefinitely. If the last dividend was $0.60 and the required return is 30%, what is the price of the stock?

A.$3.08 B.$4.55 C.$6.07 D.$8.19 E$10.44

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Answer #1

B. $4.55 ,

Price of stock = 0.81 / (1+ 0.30)1 + 1.0287 / (1+ 0.30)2 + 1.2344/ (1+ 0.30)3 + 1.3332 / (0.30-0.08) * (1+0.30)-3

= 0.81 / (1.30) + 1.0287 / (1.30)2 + 1.2344/ (1.30)3 + 1.3332 / 0.22 * 1 /(1.30)3

= 0.81 / 1.30 + 1.0287 / 1.69 + 1.2344/ 2.197  + 1.3332 / 0.22 * 1 /2.197

=0.6231 + 0.6087 + 0.5619 + 2.7583

= 4.55

Note:-   D1 = 0.60 * (1+0.35) = 0.81

D2 = 0.81 * (1+0.27) = 1.0287

D3 = 1.0287 * (1+ 0.20) = 1.2344

D4 = 1.2344 * (1+0.08) = 1.3332

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