Coal Co. just announced that it will commence paying annual dividends. It plans to pay $1.75...

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Coal Co. just announced that it will commence paying annualdividends. It plans to pay $1.75 a year for four years, $1.25 ayear for the following three years, and then cease paying dividendsaltogether. How much is one share of this stock worth to you todayif you require an 8 percent rate of return?
a) $8.16
b) $6.32
c) $5.15
d) $7.79

Answer & Explanation Solved by verified expert

3.8 Ratings (528 Votes)

a) $8.16

Working:

As per dividend discount model, current value of stock is the present value of dividend.

Present value of dividends is calculated as follows:

Year	Dividend	Discount factor	Present Value
a	b	c=1.08^-a	d=b*c
1	$ 1.75	0.9259	$ 1.62
2	$ 1.75	0.8573	$ 1.50
3	$ 1.75	0.7938	$ 1.39
4	$ 1.75	0.7350	$ 1.29
5	$ 1.25	0.6806	$ 0.85
6	$ 1.25	0.6302	$ 0.79
7	$ 1.25	0.5835	$ 0.73

	Total		$ 8.16

So, value of one share today is			$ 8.16

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Transcribed Image Text

Coal Co. just announced that it will commence paying annualdividends. It plans to pay $1.75 a year for four years, $1.25 ayear for the following three years, and then cease paying dividendsaltogether. How much is one share of this stock worth to you todayif you require an 8 percent rate of return?a) $8.16b) $6.32c) $5.15d) $7.79