Question

Deployment Specialists pays a current (annual) dividend of $1 and is expected to grow at 22% for two years and then at 5% thereafter. If the required return for Deployment Specialists is 11.0%, what is the intrinsic value of its stock

Answer 1

Answer:

The value of the stock = $19.64

Explanation:

According to the dividend valuation model, the value of a stock is the present value of the expected future cash flows from the stock discounted at the the required rate of return.

Year                     Workings                        Present value(PV)

1                 $1 × (1.22)  × 1.11^(-1)  =                     1.10

2                 $1 × (1.22)^2 ×(1.11)^(-2) =                1.21

3                 $1 × ((1.22)^2 × (1.05))/0.11-0.05) = 21.35 ( PV in year 2 terms)

PV (in year 0) of Year 3 dividend  = 21.35 × 1.11^(-2)

                                      = 17.33 (see notes)

The value of the stock = $1.10+ $1.21 + 17.3

                                      = $19.64

Notes:

Note the growth applied to year 3 dividend gives the PV in year 2 terms. So we need to re-discount again to year 0.

The value of the stock = $19.64