Question

A stock will pay no dividends for the next 3 years. Four years from now, the stock is expected to pay its first dividend in the amount of $2.4. It is expected to pay a dividend of $3 exactly five years from now. The dividend is expected to grow at a rate of 5% per year forever after that point. The required return on the stock is 14%. The stock's estimated price per share exactly TWO years from now, P2 , should be $______.

Answer 1

Answer:

$24.59 or $24.6 or $25

Explanation:

Value of the share is the present value of dividend associated with that share. We need to calculate the present value of each dividend at year 2 and add them to determine the value of the share.

As given there is no dividend for 3 years,next dividend of $2.4 dividend will be discounted for two years and $3 dividend for three years. After that we need to calculate the  present value using DVM and discount this value for 4 years.

Value of Stock = [ $2.4 (1+14%)^-2 ] + [ $3 (1+14%)^-3 ] + [ $3(1+5%) / (14%-5%) ] x (1+14%)^-4

Value of Stock = $1.85 + $2.02 + $20.72 = $24.59