Question

The risk-free rate is 3.26% and the market risk premium is 5.26%. A stock with a β of 1.69 just paid a dividend of $1.09. The dividend is expected to grow at 22.69% for three years and then grow at 4.62% forever. What is the value of the stock?

Answer 1

Required return=risk free rate+Beta*market risk premium

=3.26+(5.26*1.69)=12.1494%

D1=(1.09*1.2269)=1.337321

D2=(1.337321*1.2269)=1.64075913

D3=(1.64075913*1.2269)=2.01304738

Value after year 3=(D3*Growth rate)/(Required return-Growth rate)

=(2.01304738*1.0462)/(0.121494-0.0462)

=27.9710225

Hence current value=Future dividend and value*Present value of discounting factor(rate%,time period)

=1.337321/1.121494+1.64075913/1.121494^2+2.01304738/1.121494^3+27.9710225/1.121494^3

=$23.75(Approx)