Question

A company currently pays a dividend of $2.75 per share (D₀ = $2.75). It is estimated that the company's dividend will grow at a rate of 21% per year for the next 2 years, and then at a constant rate of 6% thereafter. The company's stock has a beta of 2, the risk-free rate is 7.5%, and the market risk premium is 6%. What is your estimate of the stock's current price? Do not round intermediate calculations. Round your answer to the nearest cent.

Answer 1

As per CAPM

expected return = risk-free rate + beta * (Market risk premium)

Expected return% = 7.5 + 2 * (6)

Expected return% = 19.5

	Required rate=	19.50%
Year	Previous year dividend	Dividend growth rate	Dividend current year	Horizon value	Total Value	Discount factor	Discounted value
1	2.75	21.00%	3.3275		3.3275	1.195	2.7845
2	3.3275	21.00%	4.026275	31.614	35.640275	1.428025	24.95774
	Long term growth rate (given)=	6.00%			Value of Stock =	Sum of discounted value =	27.74
Where
Current dividend =Previous year dividend*(1+growth rate)^corresponding year
Total value = Dividend + horizon value (only for last year)
Horizon value = Dividend Current year 2 *(1+long term growth rate)/( Required rate-long term growth rate)
Discount factor=(1+ Required rate)^corresponding period
Discounted value=total value/discount factor