Question

.NEED ANSWER ASAP / ANSWER NEVER USED BEFORE

a.)

Nonconstant Dividend Growth Valuation

A company currently pays a dividend of $3.2 per share (D₀ = $3.2). It is estimated that the company's dividend will grow at a rate of 15% per year for the next 2 years, and then at a constant rate of 7% thereafter. The company's stock has a beta of 1.3, the risk-free rate is 10%, and the market risk premium is 5.5%. What is your estimate of the stock's current price? Do not round intermediate calculations. Round your answer to the nearest cent.

$  

b.)

Return on Common Stock

You buy a share of The Ludwig Corporation stock for $22.10. You expect it to pay dividends of $1.02, $1.0781, and $1.1396 in Years 1, 2, and 3, respectively, and you expect to sell it at a price of $26.10 at the end of 3 years.

1. Calculate the growth rate in dividends. Round your answer to two decimal places.

     %

2. Calculate the expected dividend yield. Round your answer to two decimal places.

     %

3. Assuming that the calculated growth rate is expected to continue, you can add the dividend yield to the expected growth rate to obtain the expected total rate of return. What is this stock's expected total rate of return (assume market is in equilibrium with the required rate of return equal to the expected return)? Do not round intermediate calculations. Round your answer to two decimal places.

     %

Answer 1

a). Calculating the Expected Return of Stock using CAPM model:

Expected Return = Risk free rate + Beta of stock*Market Risk Premium

Expected Return = 10 + 1.3*5.5

Expected Return = 17.15%

Calculating the price of Stock using Dividend Growth Model formula:

P_o= {[3.2(1+.15)]/(1+0.1715)¹} + {[3.2(1+.15)²]/(1+0.1715)²} + {[3.2(1+.15)²(1+.07)]/(1+0.1715)²*(0.1715-0.07)

= 3.1412 + 3.0834 + 32.5052

= $ 38.73

Estimate Stock Price is $ 38.73

b). Calculating Growth rate in Dividends:

Growth rate in Yr-1 to Yr-2 = (1.0781-1.02)/1.02

= 5.70%

Growth rate in Yr-2 to Yr-3 = (1.1393-1.0781)/1.0781

= 5.70%

So, Growth Rate in Dividends is 5.70%

-- Calculating the expected dividend yield:

Expected Dividend Yield = D_o(1+g)/P_o

= 1.1396(1+0.057)/26.10

= 4.62%

So, Expected Dividend Yield = 4.62%

-- Calculating stock's expected total rate of return:

Total rate of Return =Dividend Yield rate + Growth Rate

= 5.70+4.62

= 10.32%

So, Stock's Expected Total Return is 10.32%

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