Question

"A young software company will pay its first dividend of $0.60 next year. This dividend of...

"A young software company will pay its first dividend of $0.60 next year. This dividend of $0.60 will grow at a rate of 10% for four years until the end of year 5. After that, the growth will slow down to 5% forever. The required rate of return is 15%. What is the price of the stock today?"

$6.98

$7.14

$7.31

$7.62

$7.97
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Homework Answers

Answer #1

Answer is $6.98

Dividend in Year 1, D1 = $0.60

Growth rate for next 4 is 10% and a constant growth rate (g) is 5%

D2 = $0.6000 * 1.10 = $0.6600
D3 = $0.6600 * 1.10 = $0.7260
D4 = $0.7260 * 1.10 = $0.7986
D5 = $0.7986 * 1.10 = $0.8785
D6 = $0.8785 * 1.05 = $0.9224

Required Return, rs = 15%

P5 = D6 / (rs - g)
P5 = $0.9224 / (0.15 - 0.05)
P5 = $0.9224 / 0.10
P5 = $9.224

P0 = $0.60/1.15 + $0.66/1.15^2 + $0.726/1.15^3 + $0.7986/1.15^4 + $0.8785/1.15^5 + $9.224/1.15^5
P0 = $6.98

Therefore, price of the stock today is $6.98

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