Question

In: Finance

A rapidly growing firm is currently paying a dividend of $2.20. The dividend growth rate is...

  1. A rapidly growing firm is currently paying a dividend of $2.20. The dividend growth rate is expected to be 9% for the next 8 years. The dividend growth rate after the first 8 years is expected to be 4% annually. The expected return on the market is 7%, the risk free rate is 4% and the firm’s Beta is 0.84.
    1. Calculate the estimated price (intrinsic value) for a share of this firm’s stock.
    2. What does this firm’s Beta measure?
    3. Use Goal Seek to determine what the current dividend would need to be to yield an estimated price (intrinsic value) of $150.

Solutions

Expert Solution

a]

intrinsic value = present value of next 8 years dividends + present value of terminal value at end of year 8

terminal value at end of year 8 = year 9 dividend / (required return - growth rate after 8 years)

required return = risk free rate + (beta * (expected market return - risk free rate))

required return = 4% + (0.84 * (7% - 4%)) = 6.52%

intrinsic value = $128.70

b]

Beta measures the sensitivity of the stock's price to changes in the overall market. In this case, the beta is 0.84. This means that for every 1% change in the overall market, the stock's price can be expected to change by 0.84%.

c]

the current dividend to yield an intrinsic value of $150 is $2.564


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