Question

The required rate of return on the shares in the companies identified below is 11.60% pa. Calculate the current share price (ex-dividend) in each case.

a) The current earnings per share of Alpha Ltd are $4.80. The company does not reinvest any of its earnings. Earnings are expected to remain constant.

b) Beta Ltd’s current dividend is $2.80 (D₀) and dividends are expected to grow at 5.5% pa indefinitely.

c) Gamma Ltd is not expecting to pay dividends for three years, at the end of year four a dividend of $4.80 is planned and dividends are expected to grow at 3.25% pa forever after that.

d) Delta limited plans to pay dividends of 2.55, 2.95, and 3.55 at the end of years 4, 5, 6 respectively followed by a dividend of 4.20 pa in perpetuity after that.

Please do in excel include show formula

Answer 1

a.

Current EPS of company is $4.80 and required rate of return is 11.60%. COmpany does not reinvest any of earnings, so dividend per share is equal to earnings per share.

Current Stock price = Dividend per share / Required rate of return

= $4.80 / 11.60%

= $41.38

Current Stock price is $41.38.

b.

current dividend is $2.80 (D0) and dividends are expected to grow at 5.5% pa and required rate of return is 11.60%.

Current STock price = Current Dividend × (1 + Growth rate) / (Required rate - Growth rate)

= $2.80 × (1 + 5.50%) / (11.60% - 5.50%)

= $2.954 / 6.10%

= $48.43

Current Stock price is $48.43.

c.\

Stock price at end of year 3 = Dividend in year 4 / (Required rate - Growth rate)

= $4.80 / (11.60% - 5.50%)

= $4.80 / 6.10%

= $78.69

Stock price at end of year 3 is $78.69.

Current Stock price = $78.69 / (1 + 11.60%) ^ 3

= $78.69 / 1.3899

= $56.61

Current Stock price is $56.61.

d.

Current Stock price is calculated in excel and screen shot provided below:

Current Stock price is $31.06.