Question

AXP just paid a dividend of $0.80 per share and analysts forecasted five-year growth rates of 10.54 percent per year for AXP and 13.21 percent per year for the industry average. Assume the growth rate for the industry average will remain constant. Then, assuming AXP’s growth rate will revert to the industry average after five years, what share price would we place on AXP today, if we use a discount rate of 15 percent per year?

Answer 1

The value of the stock is computed as shown below:

= Dividend in year 1 / (1 + required rate of return)¹ + Dividend in year 2 / (1 + required rate of return)² + Dividend in year 3 / (1 + required rate of return)³ + Dividend in year 4 / (1 + required rate of return)⁴ + Dividend in year 5 / (1 + required rate of return)⁵ + 1 / (1 + required rate of return)⁵ [ ( Dividend in year 5 (1 + growth rate) / ( required rate of return - growth rate) ]

= ($ 0.80 x 1.1054) / 1.15 + ($ 0.80 x 1.1054²) / 1.15² + ($ 0.80 x 1.1054³) / 1.15³ + ($ 0.80 x 1.1054⁴) / 1.15⁴ + ($ 0.80 x 1.1054⁵) / 1.15⁵ + 1 / 1.15⁵ x [ ($ 0.80 x 1.1054⁵ x 1.1321) / (0.15 - 0.1321) ]

= $ 0.88432 / 1.15 + $ 0.977527328 / 1.15² + $ 1.080558708 / 1.15³ + $ 1.194449596 / 1.15⁴ + $ 1.320344584 / 1.15⁵ + $ 83.50626275 / 1.15⁵

= $ 0.88432 / 1.15 + $ 0.977527328 / 1.15² + $ 1.080558708 / 1.15³ + $ 1.194449596 / 1.15⁴ + $ 84.82660733 / 1.15⁵

= $ 45.08 Approximately