Question

Question 3/ Firm C is planning its first dividend in 4 years from now. Firm C retention ratio is 65%. Firm C current net income is $2millions with 500,000 shares outstanding. The net income is expected to grow by 1% during the next 4 years. The dividends are expected to grow during year 5 by 11.5% and during year 6 by 9.5%. From year 6 to year 14 they is no expected growth in dividends. However starting from year 15 there will be a constant dividend growth rate of 5% forever. The required rate of return on the stocks is 8%.

a/ Compute the intrinsic value of the stock now? (Show your steps)
b/ Compute the intrinsic value of the stock at the end of year 2? (Show your steps)

c/ Compute the intrinsic value of the stock at the end of year 8? (Show your steps)

d/ Compute the intrinsic value of the stock at the end of year 14? (Show your steps)

Answer 1

SOLUTION:-

EPS = Net Income / No. of Shares Dividend Payout Ratio = 1 - Retention Ratio

A) Shares price as today = $77.33

B) Share Price at the end of year 2 = $90.20

C) Share Price at the end of year 8 = $123.08

D) Share Price at the end of year 14 = $160.08

Formulas

DPS = 35% * EPS

Terminal Value = [D15 (1+ Terminal Growth)]/(Reqd Rate of Return - Terminal Growth Rate)

Discounted Cash Flows = Dividendn/(1 + Reqd Rate of Return)n

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