Question

NU YU announced today that it will begin paying annual dividends. The first dividend will be paid next year in the amount of $0.57 a share. The following dividends will be $0.62, $0.77, and $1.07 a share annually for the following three years, respectively. After that, dividends are projected to increase by 3.8 percent per year. How much are you willing to pay today to buy one share of this stock if your desired rate of return is 12 percent?

Answer 1

Answer:

$10.84

Explanation:

The computation of willing to pay today is shown below:

For this first we have to find out the present value that is shown below:

Year          Dividend per share        Present value                   Present value

                                                          interest factor @12%

1                 $0.57                              0.893                                  $0.509

2                $0.62                              0.797                                   $0.494

3                 $0.77                              0.712                                    $0.548

4                 $1.07                               0.636                                   $0.681

Present value                                                                                $2.232

Now the price for the fourth year is

= (Next year dividend) ÷ (Required rate of dividend - growth rate)

where,

Next year dividend = $1.07 + $1.07 × 3.8%

                                 = $1.07 + 0.04066

                                 = $1.11066

So, the price for the fourth year is

= ($1.11066) ÷ (12% - 3.8%)

= $13.545

Now the present value of fourth year dividend is

= $13.545 × 0.636

= $8.61

So the willing to pay today is

= $2.23 + $8.61

= $10.84