bond prices Rlashcards Quilet C Meet inberest Rates And C Ba

bond prices Rlashcards Quilet C Meet inberest Rates And C Band Prices and lietert R A fast-growing firm recently paid a dividend of $065 per share The dividend is expected to increase at a 10 percent rate foe the next three years. Afterwards, a more stable 5 percent growth rate can be assumed If a 6 percent discount rate is appropriate for this stock, what is its value today? (Do not round intermediate calculations. Round your answer to 2 decimal places 40

Solution

D₀ = $0.65 per share

Discount rate (K_e) = 6%

Dividend growth rate for first 3 years = 10%

$2.10 is the present value of dividends expected from the company for the first 3 years.

After 3 years, dividends are expected to grow at constant rate of 5%

D₄ = D₃ (1 + g)

= 0.86515 (1 + 0.05)

= 0.86515 x 1.05

= $0.9084

The value of share after 3 years will be calculated as under:

P₃ = D₄/(K_e - g)

= 0.9084/(0.06 - 0.05)

= 0.9084/0.01

= $9.084

Hence, present value of share = Present value of dividends + Present value of share after 3 years

= 2.10 + 9.084 x PVF(_{6%, 3} )

= 2.10 + ( 9.084 x 0.840)

= 2.10 + 7.63

= $9.73

Year	Dividend	PVF(6%, 3)	Present value of dividends
1	0.715	0.943	0.674245
2	0.7865	0.890	0.70
3	0.86515	0.840	0.726726
		Total	2.10