Question

Good Investments Company forecasts a $2.44 dividend for 2017, $2.62 dividend for 2018 and a $2.77 dividend for 2019 for Mountain Vacations Corporation. For all years after 2019, Good Investments Company forecasts that Mountain Vacations will pay a $2.94 dividend. Using the dividend discount valuation model determine the intrinsic value of Mountain Vacations Corporation, assuming the company's cost of equity capital is 7%. Select one:
a. $18.12
b. $24.48
c.$29.37
d. $27.91

Answer 1

Answer:

c.$29.37

Explanation:

First and foremost, it should be borne in mind that  the intrinsic value of Mountain Vacations Corporation is the present value of its future dividends for the forecast period(2017-2019) plus the present value of dividend terminal value beyond the forecast period as shown thus:

Year 1 (2017) dividend $2.44

Year 2 (2018) dividend $2.62

Year 3  (2019) dividend $2.77

the terminal value of dividend=expected dividend per year after 2019/ cost of equity capital

expected dividend per year after 2019= $2.94

cost of equity capital =7%

terminal value=$2.94 /7%=$42.00

PV of future dividend=dividend/(1+cost of equity capital)^n

n is the year in which the future dividend is expected, it is 1 for 2017, 2 for 2018 , 3 for 2019 dividend and the terminal value(since the  terminal value is already stated in 2019 terms)

intrinsic value of share=$2.44/(1+7%)^1+$2.62/(1+7%)^2+$2.77/(1+7%)^3+$42.00/(1+7%)^3

the intrinsic value of share=$41.11

It is obvious that the options are not correct

The question's inputs are wrong

2017 dividend should have been $1.74

2018 dividend should have been $1.87

2019  dividend should have been $1.98

dividend beyond 2019 should have been $2.10

terminal value=$2.10/7%=$30.00

intrinsic value of share=$1.74/(1+7%)^1+$1.87/(1+7%)^2+$1.98/(1+7%)^3+$30.00/(1+7%)^3

intrinsic value of share=$29.36(closest to c.$29.37)