Question

A company paid an annual dividend of $.40 a share last month and plans to increase the dividend by 7 percent a year for the next 6 years and then increase it by 4 percent annually thereafter. What is the value of this stock at the end of Year 6 if the discount rate is 11 percent

Answer 1

Answer:

P6 = $8.918626 rounded off to $8.92

Explanation:

The DDM will be used to calculate the price of the stock. The DDM values a stock based on the present value of the expected future dividends from the stock. The formula for price today under this model is,

P0 = D0 * (1+g) / (r - g)

Where,

• g is the constant growth rate

• D0 is the dividend paid today or most recently

• r is the required rate of return

As we use D0 * (1+g) or D1 to calculate the value of the stock today (P0), we will use D7 to calculate the value of the stock 6 years from now.

D7 = 0.4 * (1+0.07)^6 * (1+0.04)

D7 = $0.6243038264

P6 = 0.6243038264 / (0.11 - 0.04)

P6 = $8.918626 rounded off to $8.92