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raketka [301]
2 years ago
12

Over the next three years, Distant Groves will pay annual dividends of $.65, $.70, and $.75 a share, respectively. After that, d

ividends are projected to increase by 2 percent per year. What is one share of this stock worth today at a required return of 14.5 percent
Business
1 answer:
olganol [36]2 years ago
6 0

Answer:

The share is worth $5.68 today.

Explanation:

The current price of the stock can be calculated using the DDM or dividend discount model. The DDM values the stock based on the present value of the expected future dividends from the stock.

The following is the formula for the price of the stock today,

P0 = D1 / (1+r)  +  D2 / (1+r)^2  + ... +  Dn / (1+r)^n  +  Terminal value / (1+r)^n

The terminal value is the cumulative value of all the future dividends calculated when the dividend growth becomes zero or constant. In case the dividend growth becomes constant, like in this case, the terminal value is calculated as follows,

Terminal value = Dn * (1+g) / r - g

Where,

  • g is the Constant growth rate in dividends

So, the price of this stock today is,

P0 = 0.65 / (1+0.145)  +  0.70 / (1+0.145)^2  +  0.75 / (1+0.145)^3  +  

((0.75 * (1+0.02) / (0.145 - 0.02)) / (1+0.145)^3

P0 = $5.678 rounded off to $5.68

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Explanation:

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Here

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Step1: Find r which Weighted average cost of capital (WACC)

Weighted Average Cost of capital  

= Value of Debt / (V of debt + V of equity) * After tax cost of debt      PLUS

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Here

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Value of debt is 25%

value of equity is 100%

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