Babbalu Inc. just paid a dividend of $1 per share. Babbalu expects to increase its annual dividend by 20% per year for the next two years and by 15% per year for the following two years. Starting in year 5, Babbalu is expects to pay a constant annual dividend of $3 a share. What is the current value of this stock if the required rate of return is 12%?$17.71$18.97$20.50$21.08

Question

Asked Nov 3, 2019

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Babbalu Inc. just paid a dividend of $1 per share. Babbalu expects to increase its annual dividend by 20% per year for the next two years and by 15% per year for the following two years. Starting in year 5, Babbalu is expects to pay a constant annual dividend of $3 a share. What is the current value of this stock if the required rate of return is 12%?

$17.71

$18.97

$20.50

$21.08

Expert Answer

Step 1

Given that the dividend just paid is $1.
The dividend growth is expected to be 20% per year for next 2 years and 15% per year for the following two years. Hence, the dividend payment is calculated as:

Step 2

Image Transcription
Dividend in year 1=1 x (1+20%)= 1.2 Dividend in year 2=1.2 x (1+20%)= 1.44 Dividend in year 3-1.44 x (1+15%) = 1.656 Dividend in year 4=1.656 x (1+15%)= 1.904

Step 3

Now, the price beyond year 4 (starting from year 5) when the expected c...

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