A company currently pays a dividend of $2.25 per share (D0 = $2.25). It is estimated...

4.1 Ratings (704 Votes)

Calculation of required return:
Required return= Risk free rate+beta*market risk premium
Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â =5+1.8*5= 14%

Calculation of current price:
Year	Cashflows	PVF @14%	Present value
1	Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â 2.59	0.877	Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â 2.27
2	Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â 2.98	0.769	Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â 2.29
2	Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â 34.72	0.769	Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â 26.70
Total			Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â 31.26
Current price is $31.26

Working:

Dividend at year 1= 2.25*(1+0.15)= 2.59
Dividend at year 2= 2.59*(1+0.15)= 2.98

Terminal value= Dividend(1+growth)/(return-growth)
Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â =2.98*(1+0.05)/(0.14-0.05)
Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â Â =3.129/0.09=34.72

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