Question

14 )

Carnes Cosmetics Co.'s stock price is $41, and it recently paid a $1.00 dividend. This dividend is expected to grow by 21% for the next 3 years, then grow forever at a constant rate, g; and r_s = 14%. At what constant rate is the stock expected to grow after Year 3? Do not round intermediate calculations. Round your answer to two decimal places.

Answer 1

Price of stock = PV of Cash flows from it.

let X be Price after 3 years.

Thus

41 = 3.38 +0.6750X

0.6750 X = 41 - 3.38

= 37.62

x = 37.62 / 0.6750

= 55.73

P3 = D3 ( 1 + g ) / ( Ke - g )

55.73 = 1.77 ( 1 + g ) / ( 0.14 - g )

55.73 ( 0.14 - g) = 1.77 + 1.77g

7.80 - 55.73g = 1.77 + 1.77g

57.5g = 6.03

g = 6.03 / 57.5

= 0.1049 i,e 10.49%