Question

       Star LaTreck, a recent recipient of a business degree from the prestigious South Bay State University, has a new job as a stock analyst at Pain & Lynch Brokerage. Recently Pain & Lynch has been especially bullish on the common stock of Intuitive MicroSystems, Incorporated (IMSI). Star has computed the following expected dividend stream for the firm into the next century. The value of the last dividend paid, Do, and Star’s forecast for future dividends is reproduced below. REMEMBER, Do was paid before your analysis (that is, the stock is selling ex-dividend) and possible purchase of the stock.

2020           Do               $2.00

2021               D1               $1.00

2022               D2               $0.00

2023               D3               $2.00

2024               D4               $3.00

2025               D5               $4.00

After the year 2025, Star believes that the rate of growth in both earnings and dividends for IMSI will be a constant and sustainable 7%. Investors are demanding a 16% rate of return for equity investments with the risk parameters of IMSI. Help Ms LaTreck determine the price that should be paid for the stock today by answering the following questions:

1.      What is the ex-dividend price of the stock at the end of 2025, that is, determine P5.

a.      $20.80

b.     $15.44

c.      $35.67

d.     $39.33

e.      $47.56

Answer 1

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