Microtech Corporation is expanding rapidly and currently needs to retain all of
ID: 2738122 • Letter: M
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 $0.50 coming 3 years from today. The dividend should grow rapidly - at a rate of 28% per year - during Years 4 and 5; but after Year 5, growth should be a constant 4% per year. If the required return on Microtech is 14%, what is the value of the stock today? Round your answer to the nearest cent.
Explanation / Answer
1) Calculation of stock price today :
Dividend(D1) = $0.50
D2 = $0.50
D3 = $0.50
D4 = $0.64 (0.50+28%)
D5 = $0.82 (0.64+28%)
D6 = $0.853(0.82+4%)
Terminal value = D6/Ke - g
= 0.853/0.14 - 0.04
= $8.53
So that price of stock today will be present value of all dividends up to year 5 and terminal value.
Stock price = 0.50(pvaf@14%,1year)+0.50(pvaf@14%,2year+0.50(pvaf@14%,3year)+0.64(pvaf@14%,4year)+
0.82(pvif@14%,5year)+8.53(pvif@14%,5year)
= 0.50*0.877+0.50*0.769+0.50*0.675+0.64*0.592+0.82*0.519+8.53*0.519
= 0.4385+0.3845+0.3375+0.3789+0.4256+4.4271
= $6.40
Value of stock today should be $6.40