Question

1a Growing Real Fast Company (GRF) is expected to have a 25 percent growth rate for the next four years (affecting D1, D2, D3, and D4). Beginning in year five, the growth rate is expected to drop to 2.1 percent per year and last indefinitely. If GRF just paid a $2.00 dividend and the appropriate discount rate is 15.1 percent, then what is the value of a share of GRF? Enter your answer to two decimal places.

1b .TLF Co. has just paid a dividend of $2.00. It is expected that dividends will grow by 4% indefinitely. Assuming a discount rate of 12%, what is the current price of TLF Co?

Answer 1

Answer 1-a.

Last Dividend, D0 = $2.00

Growth rate for next 4 years is 25% and a constant growth rate (g) is 2.10% thereafter

D1 = $2.00 * 1.25 = $2.50
D2 = $2.50 * 1.25 = $3.125
D3 = $3.125 * 1.25 = $3.9063
D4 = $3.9063 * 1.25 = $4.8829
D5 = $4.8829 * 1.021 = $4.9854

Required Return, rs = 15.10%

P4 = D5 / (rs - g)
P4 = $4.9854 / (0.1510 - 0.0210)
P4 = $38.35

P0 = $2.50/1.151 + $3.125/1.151^2 + $3.9063/1.151^3 + $4.8829/1.151^4 + $38.35/1.151^4
P0 = $31.73

Current stock price is $31.73

Answer 1-b.

Last Dividend, D0 = $2.00
Growth Rate, g = 4%
Required Return, rs = 12%

D1 = $2.00 * 1.04 = $2.08

Current Price = D1 / (rs - g)
Current Price = $2.08 / (0.12 - 0.04)
Current Price = $26.00