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A company currently pays a dividend of $3.75 per share (D0 = $3.75). It is estimated...

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Finance

A company currently pays a dividend of $3.75 per share (D0 =$3.75). It is estimated that the company's dividend will grow at arate of 22% per year for the next 2 years, and then at a constantrate of 5% thereafter. The company's stock has a beta of 2, therisk-free rate is 3.5%, and the market risk premium is 6%. What isyour estimate of the stock's current price? Do not roundintermediate calculations. Round your answer to the nearestcent.

Answer & Explanation Solved by verified expert
4.3 Ratings (771 Votes)

As per CAPM
expected return = risk-free rate + beta * (Market risk premium)
Expected return% = 3.5 + 2 * (6)
Expected return% = 15.5
Required rate= 15.50%
Year Previous year dividend Dividend growth rate Dividend current year Horizon value Total Value Discount factor Discounted value
1 3.75 22.00% 4.575 4.575 1.155 3.961
2 4.575 22.00% 5.5815 55.815 61.3965 1.334025 46.0235
Long term growth rate (given)= 5.00% Value of Stock = Sum of discounted value = 49.98
Where
Current dividend =Previous year dividend*(1+growth rate)^corresponding year
Total value = Dividend + horizon value (only for last year)
Horizon value = Dividend Current year 2 *(1+long term growth rate)/( Required rate-long term growth rate)
Discount factor=(1+ Required rate)^corresponding period
Discounted value=total value/discount factor

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A company currently pays a dividend of $3.75 per share (D0 =$3.75). It is estimated that the company's dividend will grow at arate of 22% per year for the next 2 years, and then at a constantrate of 5% thereafter. The company's stock has a beta of 2, therisk-free rate is 3.5%, and the market risk premium is 6%. What isyour estimate of the stock's current price? Do not roundintermediate calculations. Round your answer to the nearestcent.

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