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Some investors expect Mazzeo Industries to have an irregular dividend pattern for several years and then...

Some investors expect Mazzeo Industries to have an irregular dividend pattern for several years and then to grow at a constant rate. Dividends are expected to grow by 25% for two years and 20% for the next three years. After that, growth will fall to a constant rate of 7%. Last year’s dividend was $1.00. This amount of risk justifies a 14% required rate of return. If these projections are correct, what should the stock be valued at today?

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Answer #1

P0 = [{D0 * (1 + g1)} / (1 + r)] + [{D0 * (1 + g1)2} / (1 + r)2] + [{D0 * (1 + g1)2 * (1 + g2)} / (1 + r)3] + [{D0 * (1 + g1)2 * (1 + g2)2} / (1 + r)4] + [{D0 * (1 + g1)2 * (1 + g2)3} / (1 + r)5] + [{D0 * (1 + g1)2 * (1 + g2)3 * (1 + gC)} / {(r - gC) * (1 + r)5}]

= [{$1 * (1 + 0.25)} / (1 + 0.14)] + [{$1 * (1 + 0.25)2} / (1 + 0.14)2] + [{$1 * (1 + 0.25)2 * (1 + 0.20)} / (1 + 0.14)3] + [{$1 * (1 + 0.25)2 * (1 + 0.20)2} / (1 + 0.14)4] + [{$1 * (1 + 0.25)2 * (1 + 0.20)3} / (1 + 0.14)5] + [{$1 * (1 + 0.25)2 * (1 + 0.20)3 * (1 + 0.07)} / {(0.14 - 0.07) * (1 + 0.14)5}]

= $1.10 + $1.20 + $1.27 + $1.33 + $1.40 + $21.44 = $27.73

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