Question

Synovec Co. is growing quickly. Dividends are expected to grow at a rate of 18 percent for the next 3 years, with the growth rate falling off to a constant 5 percent thereafter.

  

If the required return is 9 percent and the company just paid a $1.20 dividend. what is the current share price?

Multiple Choice

• $43.31

• $42.67

• $45.08

• $40.89

• $44.19

Answer 1

The value of the stock is computed as shown below:

= Dividend in year 1 / (1 + required rate of return)¹ + Dividend in year 2 / (1 + required rate of return)² + Dividend in year 3 / (1 + required rate of return)³ + 1 / (1 + required rate of return)³ [ ( Dividend in year 3 (1 + growth rate) / ( required rate of return - growth rate) ]

= ($ 1.20 x 1.18) / 1.09 + ($ 1.20 x 1.18²) / 1.09² + ($ 1.20 x 1.18³) / 1.09³ + 1 / 1.09³ x [ ($ 1.20 x 1.18³ x 1.05) / (0.09 - 0.05) ]

= $ 1.416 / 1.09 + $ 1.67088 / 1.09² + $ 1.9716384 / 1.09³ + 1 / 1.09³ x [ ($ 51.755508) ]

= $ 1.416 / 1.09 + $ 1.67088 / 1.09² + $ 53.7271464 / 1.09³  

= $ 44.19 Approximately

Feel free to ask in case of any query relating to this question