Answer:
Explanation:
1)
dividend at (t = 1) given = 3.5
dividend at (t = 2) = 3.5 *(1 - 0.3) = 2.45
dividend at (t = 3) = 2.45*(1 - 0.3) = $1.715
so dollar amount of dividend at (t = 3) = $1.715
2)
value of the stock = present value of future dividends discounted at cost of capital(20%)
continuous value = dividend at (t = 3)[1+ growth] / K - g
= 1.715(1+3%) / 0.2 - 0.03
= 10.39
share price = 3.5 / (1.2) + 2.45 / (1.2)^2 + 1.715 / (1.2)^3 + 10.39 / (1.2)^3
= $11.62
3)
worth of the share as per calculation is $11.62 only. $11.75 is over priced so it is not recommended to buy
in case of 10% cost of capital
continuous value = dividend at (t = 3)[1+ growth] / K - g
= 1.715(1+3%) / 0.1 - 0.03
= 25.235
share price = 3.5 / (1.1) + 2.45 / (1.1)^2 + 1.715 / (1.1)^3 + 25.235 / (1.1)^3
= $25.45
since offer price of $11.75 is less than calculated value, we can buy the share.
