Question

Changes in Growth and Stock Valuation Consider a firm that had been priced using a 10.00 percent growth rate and a 15.00 percent required rate. The firm recently paid a $1.30 dividend. The firm has just announced that because of a new joint venture, it will likely grow at a 12.00 percent rate. How much should the stock price change (in dollars and percentage)?

Changes in Growth and Stock Valuation Consider a firm that had been priced using a 10 percent growth rate and a 13 percent required rate. The firm recently paid a $2.30 dividend. The firm has just announced that because of a new joint venture, it will likely grow at a 12 percent rate. How much should the stock price change (in dollars and percentage)?

Answer 1

Solution:

a)Stock price when growth rate is 10%

Stock Price@10%=Recent Dividend(1+growth rate)/(Required rate-Growth rate)

=$1.30(1+0.10)/15%-10%

=$1.43/5%

=$28.60

Stock price when growth rate is 12%

Stock Price@12%=$1.30(1+0.12)/15%-12%

=$48.53

Stock price change due to change in growth rate=$48.53-$28.60

=$19.93

% change in stock price=(Change in stock price/Initial price)*100

=($19.93/28.60)*100=69.69%

b)Stock price when growth rate is 10% is;

=recent dividend(1+growth rate)/(Required rate-Growth rate)

=$2.30(1+0.10)/13%-10%

=$84.33

Stock price when growth rate is 12% is;

=$2.30(1+0.12)/13%-12%

=$257.60

Change in stock price due to change in growth rate=$257.60-$84.33

=$173.27

%change in stock price=($173.27/84.33)*100

=205.47%