Question

1. A company has just paid its annual dividend of $3.95 yesterday, and it is unlikely to change the amount paid out in future years. If the required rate of return is 18 percent p.a., what is the share worth today? (to the nearest cent; don’t include $ sign)

2.

A company has just paid its first dividend of $3.78. Next year's dividend is forecast to grow by 5 percent, followed by another 5 per cent growth in year two. From year three onwards dividends are expected to grow by 3.3 percent per annum, indefinitely. Investors require a rate of return of 16 percent p.a. for investments of this type. The current price of the share is (round to nearest cent)

Select one:

a. $31.71

b. $28.61

c. $13.76

d. $15.65

Answer 1

Q1:

share price= D1/(k-g)

where D1=next year dividend=3.95; k=wacc=18% ; g=growth of dividend=0

share price= 3.95/.18 =21.944 $

Q2:

Share price= PV(year 1 dividend)+PV(year 2 dividend)+ PV(perpetuity dividend from year 3)

= 3.78*(1+5%)/(1+16%) + (3.78*(1+5%)^2)/(1+16%)^2 + 3.78*(1+5%)^2*(1+3.3%)/[(.16-.033)*(1+16%)^2]

=31.71 $