Metallica Bearings, Inc., is a young start-up company. No dividends will be paid
ID: 2731219 • Letter: M
Question
Metallica Bearings, Inc., is a young start-up company. No dividends will be paid on the stock over the next nine years, because the firm needs to plow back its earnings to fuel growth. The company will then pay a dividend of $13.25 per share 10 years from today and will increase the dividend by 5 percent per year thereafter.
If the required return on this stock is 13 percent, what is the current share price? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)
Current share price $
Explanation / Answer
Solution :- Dividend in Year 10 (D10) = $ 13.25
Dividend in Year 11 (D11) = 13.25 + 5 % of 13.25 = $ 13.9125
Price of share in Year 10 = Dividend in Year 11 (D11) / (Required return - Growth in dividend)
= 13.9125 / (0.13 - 0.05)
= 13.9125 / 0.08
= $ 173.906 (approx).
Current share price = (13.25 + 173.906) / (1 + 0.13)10
= 187.156 / (1.13)10
= 187.156 / 3.394567
= $ 55.13398 (Rounded off to $ 55.13)
Conclusion :- Current share price = $ 55.13 (approx).