The ABC COmpany just paid a $0.8 quarterly dividend. The dividends are expected to grow at...

The ABC COmpany just paid a $0.8 quarterly dividend. The dividends are expected to grow at 20% per year for the next 3 years. After that, the growth rate is expected to go down to the industry average of 8% per year and stay at this level forever. The required rate of return on ABC is 15% per annum.

1)Draw the time line, showing dividends of ABC.

2)Find the price of ABC stock.

3)Find the value of its growth opportunities (PVGO).

4)What is the effective annual rate (EAR) of return on the ABC stock?

Please Type your answers. NO handwritten notes.

Expert Solution

Discount rate	15.0000%
Cash flows	Year	Discounted CF= cash flows/(1+rate)^year	Cumulative cash flow
-	0	-	-
3.840	1	3.34	3.34
4.608	2	3.48	6.82
5.530	3	3.64	10.46
85.314	3	56.10	66.55

2. Price = 66.55

3. without growth price = 3.2/0.15 = 21.33

PVGO = 66.55 - 21.33 = 45.22

4. After a year:

Discount rate	15.0000%
Cash flows	Year	Discounted CF= cash flows/(1+rate)^year	Cumulative cash flow
-	0	-	-
4.608	1	4.01	4.01
5.530	2	4.18	8.19
85.314	2	64.51	72.70

price = 72.70

Effective annual return = 72.70/66.55 - 1 = 9.24%

jeff jeffy answered 2 years ago

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