Question

A stock just paid a dividend of $1.41. The dividend is expected to grow at 25.44% for two years and then grow at 4.37% thereafter. The required return on the stock is 12.69%. What is the value of the stock?

Please show steps clearly and how to do it on a calculator if possible.

Answer 1

We can use the dividend discount model to calculate the value of the stock. The formula for the model is:

PV = D1 / (1 + r) + D2 / (1 + r)^2 + ... + Dn / (1 + r)^n

Where PV is the present value of the stock, D1 is the dividend in the first year, D2 is the dividend in the second year, and so on, and r is the required return.

In this case, we know the dividend in the first year is $1.41, and it is expected to grow at 25.44% for two years, and then at 4.37% thereafter. So we can calculate D1, D2, and D3 as follows:

D1 = $1.41

D2 = $1.41 * (1 + 0.2544) = $1.77

D3 = $1.77 * (1 + 0.0437) = $1.85

We also know the required return is 12.69%. Using the formula above, we can calculate the present value of the stock:

PV = $1.41 / (1 + 0.1269) + $1.77 / (1 + 0.1269)^2 + $1.85 / (1 + 0.1269)^3

PV = $1.25 + $1.41 + $1.34

PV = $4.00

Therefore, the value of the stock is $4.00.