A company currently has earnings (e0) of $5.00 and a dividend (d0) of $0.50. the firm’s current return on equity (roe) is 30%. the firm will maintain the same dividend payout and roe over the next two periods. then it will transition in a linear reduction in years 3, 4, and 5 to a growth of 3%. the firm will then grow at 3% to perpetuity. the firm’s beta is presently 1.4, but this will transition to 1 over the same period. the risk-free rate is 4% and the market risk premium is 6%. roe is expected to be 10% beginning in year 5 to perpetuity. what is the present value of this firm’s equity using a three-stage model with linear transition in years 3, 4, and 5?
1) 12%
2) 15%
3) 18%
4) 20%
