Question

Earnings per common share of ABC Industries for the next year are expected to be $2.25 and to grow 7.5% per year over the next 4 years. At the end of the 5 years, earnings growth rate is expected to fall to 6.25% and continue at that rate for the foreseeable future. ABC’s dividend payout ratio is 40%. If the expected return on ABC's common shares is 18.5%, calculate the current share price. (Round your answer to the nearest cent.)
Current share price $

Answer 1

Earnings per share next year(E1) = $2.25

ABC’s dividend payout ratio is 40%

Expected dividend in year 1(D1) = E1*40% = $2.25*40%

= $0.9

Assuming ABC’s dividend payout ratio will be constant at 40% in future years

Expected Growth rate of Dividend for next 4 years(g) = 7.5%

Dividend growth rate theerafter forever(g1) = 6.25%

Required rate of Return(Ke) = 18.5%

Calculating the Intrinsic Value of Stock:-

P0 = 0.759+0.689+0.625+0.567+0.514+4.461

P0 = $7.62

So, the Current Value of Stock is $7.62