Question

Sinclair​ Pharmaceuticals, a small drug​ company, develops a vaccine that will protect against Helicobacter pylori​, a bacteria that is the cause of a number of diseases of the stomach. It is expected that Sinclair Pharmaceuticals will experience extremely high growth over the next three years and will reinvest all of its earnings in expanding the company over this time. Earnings were $ 1.15 per share before the development of the vaccine and are expected to grow by​ 40% per year for the next three years. After this​ time, it is expected growth will drop to 3 ​% and stay there for the expected future. Four years from now Sinclair will pay dividends that are​ 75% of its earnings.
Required:
1. If its equity cost of capital is 12 ​%, what is the value of a share of Sinclair Pharmaceuticals​ today?

Answer 1

Answer:

The share at the current year will be worth $ 17.23

Explanation:

We solve for the earnins in four years:

$1.15 \times (1+0.4)^3(1+0.03)^1=FV$

Earnigns at 4th year: 3.250268

We pay 75% which is: 3.25 x 75% = 2.44

Now we use the gordonal model:

$\frac{Dividends}{return - grow}$

2.44 / (0.12 - 0.03) = 2.44/0.09 = 27.11

Last, we discount this as it is 4 years into the future.

$\frac{Maturity}{(1 + rate)^{time} } = PV$  

Maturity  $27.1100

time  4.00

rate  0.12000

$\frac{27.11}{(1 + 0.12)^{4} } = PV$  

PV   17.2289