Microtech Corporation is expanding rapidly and currently needs to retain all of

Question

Microtech Corporation is expanding rapidly and currently needs to retain all of its earnings; hence, it does not pay dividends. However, investors expect Microtech to begin paying dividends, beginning with a dividend of $1.50 coming 3 years from today. The dividend should grow rapidly - at a rate of 18% per year - during Years 4 and 5; but after Year 5, growth should be a constant 5% per year. If the required return on Microtech is 16%, what is the value of the stock today? Round your answer to the nearest cent.

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Explanation / Answer

Hi,

Please find the answer as follows:

D3 = 1.5

D4 = 1.5*(1+.18) = 1.77

D5 = 1.77*(1+.18) = 2.09

D6 = 2.09*(1+.05) = 2.19

P5 = 2.19/(.16 -.05) = 19.91

Value of Stock Today = 1.5/(1+.16)^3 + 1.77/(1+.16)^4 + (2.09 + 19.91)/(1+.16)^5 = 12.41

Thanks.

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