Today Inc. paid a dividend of $5.00 per share on its common stock yesterday. Div

Question

Today Inc. paid a dividend of $5.00 per share on its common stock yesterday. Dividends are expected to grow at a constant rate of 4% for the next 2 years at which point the stock is expected to sell for $56.00. If investors require a rate of return on Today's common stock of 18% what should the stock sell for today?

This is a practice question and I am new at this so please give me a step by step simplified explanation of the equation or calculations to figure this out. I am not getting to the correct answer.

Thanks

Explanation / Answer

From the given information, D0 (Dividend in year-0) = $5.00 D1 = D0 (1+g) {where g is the growth rate; D1 is the Dividend in year-1}      = $5.00 (1 + 0.04)      = $5.2 D2 = D1 (1+g) {D2 is the dividend in year-2}       = $5.2 (1 + 0.04)       = $5.41 P2 = $56 (P2 is the price of the stock in year-2) Required return (R) = 18% Computing the current price of the stock using the formula: P0 = [D1 / (1+R)^1] + [D2 / (1+R)^2] + [P2 / (1+R)^2]      = [$5.2 / (1+0.18)^1] + [$5.41 / (1 + 0.18)^2] + [$56 / (1+0.18)^2]      = [$5.2 / 1.18] + [$5.41 / 1.3924] + [$56 / 1.3924]      = [$4.407] + [$3.8854] + $40.22      = $48.5 Therefore, the current price of the stock is $48.5 D0 (Dividend in year-0) = $5.00 D1 = D0 (1+g) {where g is the growth rate; D1 is the Dividend in year-1}      = $5.00 (1 + 0.04)      = $5.2 D2 = D1 (1+g) {D2 is the dividend in year-2}       = $5.2 (1 + 0.04)       = $5.41 P2 = $56 (P2 is the price of the stock in year-2) Required return (R) = 18% Computing the current price of the stock using the formula: P0 = [D1 / (1+R)^1] + [D2 / (1+R)^2] + [P2 / (1+R)^2]      = [$5.2 / (1+0.18)^1] + [$5.41 / (1 + 0.18)^2] + [$56 / (1+0.18)^2]      = [$5.2 / 1.18] + [$5.41 / 1.3924] + [$56 / 1.3924]      = [$4.407] + [$3.8854] + $40.22      = $48.5 Therefore, the current price of the stock is $48.5

Related Questions

Navigate

• Browse (All)
• Browse T
• Subjects

---