The XYZ Company paid $1.25 dividend yesterday. Its dividend growth rate is expected to be constant at 24.50% for 2 years, after which dividends are expected to grow at a rate of 5.95% forever. Its required return (rs) is 11.70%. What is the best estimate of the current stock price?Round your answer to two decimal places. For example, if your answer is $345.6671 round as 345.67 and if your answer is .05718 or 5.7182% round as 5.72. A. $26.51B. $38.50C. $37.24D. $35.98E. $31.56

Question
Asked Oct 7, 2019
26 views
The XYZ Company paid $1.25 dividend yesterday. Its dividend growth rate is expected to be constant at 24.50% for 2 years, after which dividends are expected to grow at a rate of 5.95% forever. Its required return (rs) is 11.70%. What is the best estimate of the current stock price?

Round your answer to two decimal places. For example, if your answer is $345.6671 round as 345.67 and if your answer is .05718 or 5.7182% round as 5.72.
 
A. $26.51
B. $38.50
C. $37.24
D. $35.98
E. $31.56
check_circle

Expert Answer

Step 1

Current price of stock will consist present value of all future dividend.

The below expression will help to calculate price of the stock.

dx(1+5) dx{1+5}°
(1
dx{-1E
(1+1)
(1+1)
Price of stock
(1+1
Here
dis dividend
8 is dividend growth in first two years
8, is dividend growth after two year.
help_outline

Image Transcriptionclose

dx(1+5) dx{1+5}° (1 dx{-1E (1+1) (1+1) Price of stock (1+1 Here dis dividend 8 is dividend growth in first two years 8, is dividend growth after two year.

fullscreen
Step 2

Using formula for sum of infinite geometric progression, the above expression can be modified further, as after 2 years dividend growth rate is fixed and receives in perpetuity.

dx(-s)d-d5{-8)
+
+
(1-1X
(1-i)
(1+)
Price of share
81
+
(1-1
dx(1+g) dx(1+g
(1-1X
(1-1)2
(1+1)
(1+g2)
1-
Here
lis the first term of geometric progression
(1-E
+ 82
is the common ratio
(1+1)
help_outline

Image Transcriptionclose

dx(-s)d-d5{-8) + + (1-1X (1-i) (1+) Price of share 81 + (1-1 dx(1+g) dx(1+g (1-1X (1-1)2 (1+1) (1+g2) 1- Here lis the first term of geometric progression (1-E + 82 is the common ratio (1+1)

fullscreen
Step 3

Substitute $1.25 for d, 0.245 for g1, 0.0595 for g2 and 11.7% for i ...

$1.25x(1 0.245) $1.25x(10.245 )
$1.25x(10.245) x (1+0.0595)
(1 0.117)
(1-0.117)
(1-0.117)2
Price of stock
$1.25x (1 0245)x (1+0.0595)
(1+0.117)
s1.25x(1+0.245) S1.25x (1+ 0.245
(1 0.117)2
(1-0.117)
s1.25x (1+0245x(1+ 0.0595)
1
(1+0.117)
(1+0.0595)
1-
(1 0.117
$1.55625 $193 753 125 $2.0528
1
1.39366 1-0.948522
1.117
1247689
($1.39324 $15529 + $28.6133)
-$31.56
help_outline

Image Transcriptionclose

$1.25x(1 0.245) $1.25x(10.245 ) $1.25x(10.245) x (1+0.0595) (1 0.117) (1-0.117) (1-0.117)2 Price of stock $1.25x (1 0245)x (1+0.0595) (1+0.117) s1.25x(1+0.245) S1.25x (1+ 0.245 (1 0.117)2 (1-0.117) s1.25x (1+0245x(1+ 0.0595) 1 (1+0.117) (1+0.0595) 1- (1 0.117 $1.55625 $193 753 125 $2.0528 1 1.39366 1-0.948522 1.117 1247689 ($1.39324 $15529 + $28.6133) -$31.56

fullscreen

Want to see the full answer?

See Solution

Check out a sample Q&A here.

Want to see this answer and more?

Solutions are written by subject experts who are available 24/7. Questions are typically answered within 1 hour.*

See Solution
*Response times may vary by subject and question.
Tagged in

Business

Finance

Other

Related Finance Q&A

Find answers to questions asked by student like you

Show more Q&A add
question_answer

Q: What is the purchase price of a 50-day T-bill with a maturity value of $1,421  that earns an annual ...

A: Calculate the purchase price as follows:

question_answer

Q: Josh Smith has compiled some of his personal financial data in order to determine his liquidity posi...

A: a) Calculation of liquidity ratio:Josh's liquidity ratio is 2.17.Excel spreadsheet:

question_answer

Q: Goodwin Technologies, a relatively young company, has been wildly successful but has yet to pay a di...

A: Calculate the horizon value and intrinsic value as follows:

question_answer

Q: Finance Question

A: Calculation of NPV when Susan has purchased a Pharmacy.Calculation of present value using Excel:Note...

question_answer

Q: How do you get a financial advising job?

A: Introduction:Financial advisors assist people to create sensible assessments concerning to cash mana...

question_answer

Q: Phil makes and sells rugs at his roadside stand. His monthly fixed cost for owning the stand is $150...

A: Phil's fixed cost = $1500Phil's total cost when he sells 12 rugs = $1548Phil's total variable cost w...

question_answer

Q: Faleye consulting is deciding which of to computer systems yo purchase. It can purchase state-of-the...

A: The concept of equivalent annual annuity is used in capital budgeting. This approach is used for eva...

question_answer

Q: A company currently pays a dividend of $2 per share, D0 = $2. It is estimated that the company’s div...

A: Price of a stock today = PV of all the future dividendsCost of equity = Risk free rate + Beta x Mark...

question_answer

Q: You are serving on a jury. A plaintiff is suing the city for injuries sustained after a freak street...

A: Calculate the annual percentage rate (APR) as follows: