Question

Corporation is expected to pay the following dividends over the next four years: $13, $9, $8, and $3.50. Afterward, the company pledges to maintain a constant 5 percent growth rate in dividends forever. If the required return on the stock is 12 percent, what is the current share price?

Answer 1

Answer:

Price of share $ 59.747

Explanation:

The Dividend Valuation Model(DVM) is a technique used to value the worth of an asset. According to this model, the value of an asset is the sum of the present values of the future cash flows would that arise from the asset discounted at the required rate of return.

This model would be applied as follows:

PV of dividend from Year 1 to Year 4

(13× 1.12^-1) + (9× 1.12^-2 ) +  ( 8 ×1.12^-3 )  + (3.50 ×1.12^-3 )= 26.38

PV  of dividend from year 5 and beyond

This will be done in two steps

PV in year 4 terms

PV = D× (1+g)/ke- g

D- 3.50, g- 5%, ke- 12%

PV = 3.50× 1.05/ (0.12- 0.05)

PV = 52.5

PV in year 0 terms

52.5 × 1.12^(-4)= 33.36469912

Total PV = 26.38  + 33.36 =  59.747

Price of share $ 59.747