Question

Church Inc. is presently enjoying relatively high growth because of a surge in the demand for its new product. Management expects earnings and dividends to grow at a rate of 3.4% for the next 4 years, after which competition will probably reduce the growth rate in earnings and dividends to zero, i.e., g = 0. The company’s most recent dividend, D₀, was $4.07, and its required rate of return is 12%. What is the expected Horizon Value at t=4?

Answer 1

Expected price at Year 4 = D5 / [ Ke -g ]

P4 - Price after 4 Years

D5 - DIv after 5 Years

Ke - Required Ret

g - Growth Rate

D5 calculation:

Year	Cash Flow / Div	Formula	Calculation
1	$                     4.21	D0 ( 1 + g)	4.07 ( 1 + 0.034 )
2	$                     4.35	D1 ( 1 + g)	4.21 * ( 1 + 0.034 )
3	$                     4.50	D2 ( 1 + g)	4.35 * ( 1 + 0.034 )
4	$                     4.65	D3 ( 1 + g)	4.5 * ( 1 + 0.034 )
5	$                     4.65	D4 ( 1 + g)	4.65 * ( 1 + 0 )

Expected price at Year 4 = D5 / [ Ke -g ]

= $ 4.65 / [ 12% - 0% ]

= $ 4.65 / 12%

= $ 38.75

Price after 4 years is $ 38.75