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eBook Problem Walk-Through Holt Enterprises recently paid a dividend, D0, of $1.75. It expects to have...
| eBook Problem Walk-Through
Holt Enterprises recently paid a dividend, D0, of $1.75. It expects to have nonconstant growth of 14% for 2 years followed by a constant rate of 4% thereafter. The firm's required return is 8%.
|
Solutions
Expert Solution
(a)-(IV)- The terminal, or horizon, date is the date when the growth rate becomes constant. This occurs at the end of Year 2.
(b)-Firm’s Horizon or Continuing Value
Dividend in Year 0 (D1) = $1.75 per share
Dividend in Year 1 (D1) = $1.9950 per share [$1.75 x 114%]
Dividend in Year 2 (D2) = $2.2743 per share [$1.9950 x 114%]
Dividend Growth Rate (g) = 4.00% per year
Required Rate of Return (Ke) = 8.00%
Firms Horizon or Continuing Value = D2(1 + g) / (Ke – g)
= $2.2743(1 + 0.04) / (0.08 – 0.04)
= $2.3653 / 0.04
= $59.13 per share
“Firm’s Horizon or Continuing Value = $59.13”
(c)-Firms Intrinsic Value Today (P0)
Firms Intrinsic Value Today is the Present Value of the future dividend payments plus the present value of Firm’s Horizon or Continuing Value
|
Year |
Cash flow ($) |
Present Value factor at 8.00% |
Stock price ($) |
|
1 |
1.9950 |
0.92593 |
1.84 |
|
2 |
2.2743 |
0.85734 |
1.95 |
|
2 |
59.13 |
0.85734 |
50.70 |
|
TOTAL |
54.49 |
||
“Hence, the Firms Intrinsic Value Today (P0) = $54.49”
NOTE
The Formula for calculating the Present Value Factor is [1/(1 + r)n], Where “r” is the Discount/Interest Rate and “n” is the number of years.
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