Question

1. Google will not pay out a dividend for two years (t=1 and t=2). For the next two years, they will pay out a dividend of $6.00 per share (t=3 and t=4). The dividend will grow at a rate of 5% per year every year after this. If the required rate of return of Google’s stock is 22%, Google’s stock price is $________.

Answer 1

Step-1 The Dividend per share for the next 4 years

Dividend in Year 1 (D1) = $0.00 per share

Dividend in Year 2 (D2) = $0.00 per share

Dividend in Year 3 (D3) = $6.00 per share

Dividend in Year 4 (D4) = $6.00 per share

Step-2, The Calculation of Stock Price for the Year 4 (P4)

Here, we have Dividend per share in year 4 (D4) = $6.00 per share

Dividend Growth Rate (g) = 5.00% per year

Required Rate of Return (Ke) = 22.00%

Therefore, the Stock Price for the Year 4 = D4(1 + g) / (Ke – g)

= $6.00(1 + 0.05) / (0.22 – 0.05)

= $6.30 / 0.17

= $37.06 per share

Step-3, The price of the stock today

As per Dividend Discount Model, the Value of the Stock is the aggregate of the Present Value of the future dividend payments and the present value the stock price for the year 4

Year	Cash flow ($)	Present Value factor at 22.00%	Present Value of cash flows ($)
1	0	0.81967	0
2	0	0.67186	0
3	6.00	0.55071	3.30
4	6.00	0.45140	2.71
4	37.06	0.45140	16.73
\TOTAL			22.74

“Hence, the Google’s stock price will be $22.74”

NOTE

The Formula for calculating the Present Value Factor is [1/(1 + r)ⁿ], Where “r” is the Discount/Interest Rate and “n” is the number of years.