Problem 19 You expect ABC Company to pay a dividend of $1.66 next year. After th
ID: 2616894 • Letter: P
Question
Problem 19 You expect ABC Company to pay a dividend of $1.66 next year. After that, you think dividends will grow by 12% for 2 years, 8% the year after that, and then maintain constant growth of 4% per year forever. You require a 16% return to invest in ABC. (a) How much would you pay for a share of ABC stock today? (b) What is the expected price of the stock next year? Problem 20. You expect ABC Company to pay a dividend of $1.66 next year. After that, you think dividends will grow by 12% for 2 years, 8% the year after that, and Ans: $16.15 Ans: $17.08 then maintain constant growth of 4% per year forever. You require a 16% retum to invest in ABC (a) How much would you pay for a share of ABC stock today? (b) What is the expected price of the stock next year? Problem 21. Dividends at BPL are expected to shrink by 6% per year for the foreseeable future. Investors require a 12% return on the stock, and the next dividend is Ans: $16.15 Ans: $17.08 expected to be $1 .28 (a) How much would you pay for a share of the company today? (b) What is the expected price next year? (c) What is the one-year retum on the stock? Problem 22. A constant growth stock is currently selling for $45 per share, has a 13% expected return and 8% expected capital appreciation (a) What is the expected price of the stock next year? (b) What is the next expected dividend? Ans: $7.1 Ans: $6.68 Ans: 12% Ans: $48.60 Ans: $2.2.5Explanation / Answer
Problem 19&20)
a) Lets take average growth of dividend for current year =(12+12+8+4+4)%/5 =8%
As per formula P= D1/r-g (Dividend Discount Model)
Where P= price, D1= next years dividend, r= required rate of return and g= dividend growth rate
P1=1.66/16%-8% =$20.75
P0 as pr 16% return = 20.75*(100-16)% =$17.43
D0=17.43*(16-8)% =$1.3944
hence, today's price is =$17.43-$1.3944 =$16.04 (approx)
b) as calculated above P1=$17.43 approx
Problem 21) a) Given: next year dividend= $1.28
dividend growth next year= -6%
required rate of return= 12%
As per formula P= D1/r-g (Dividend Discount Model)
Where P= price, D1= next years dividend, r= required rate of return and g= dividend growth rate
P= $1.28/0.12-(-0.06) = $7.11
b) Price of stock based on 12% return = 7.11(1+.12) = $7.9632
Expected dividend next year based on 6% shrink ( P1= D2/r-g (Dividend Discount Model) )
hence D2=P1*(r-g)
D2= 7.11*(0.12+.06) =$1.2798
Expected price of stock = Price -Dividend = $7.9632-$1.2796 =$6.6836
c) One year return on the stock is 12% (clearly mentioned )
Problem 22) P1= $45
D1=?
by (Dividend Discount Model) D1=$45* (0.13-0.08) =$2.25
Price of stock at 13% return= 45(1+.13) = $50.85
hence expected price of stock= $50.85-$2.25 = $48.60
b) As calculated above by(Dividend Discount Model)
D1=$45* (0.13-0.08) =$2.25