Question

Contact Corporation just paid a dividend of $1.50 per share. The company expects that the dividend will grow at a rate of 10% for the next two years. After year two it is expected that the dividend will decline at a rate of 3% indefinitely. If the required return is 12%, what is the value of a share of stock?

Answer 1

$ 19.48

As per dividend discount model, current share price is the present value of future dividends which is calculated as follows:
Step-1:Present value of dividend of non-constant growth stage
Year	Last dividend	Current Dividend	Discount factor	Present Value
a	b	c=b*1.10	d=1.12^-a	e=c*d
1	$1.50	$1.650	0.893	$1.47
2	$1.65	$1.815	0.797	$1.45
	Total			$2.92
Step-2:Present Value of dividend of constant growth period
Present Value	=	D2*(1+g)/(Ke-g)*DF2
	=	$16.56
Where,
D2	=	$1.82
g	=	3.00%
Ke	=	12.00%
DF2	=	0.797
Step-3:Sum of present value of future dividends
Sum of present value of dividends	=	$2.92	+	$16.56
	=	$19.48