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In practice, a common way to value a share of stock when a company pays dividends...

In practice, a common way to value a share of stock when a company pays dividends is to value the dividends over the next five years or so, then find the “terminal” stock price using a benchmark PE ratio. Suppose a company just paid a dividend of $1.65. The dividends are expected to grow at 19 percent over the next five years. In five years, the estimated payout ratio is 30 percent and the benchmark PE ratio is 31.

What is the target stock price in five years?

What is the stock price today assuming a required return of 10.5 percent on this stock?

Solutions

Expert Solution

current dividend , d0 = 1.65

growth rate of dividend , g = 19% = 0.19

dividend payout ratio , d = 30% = 0.30

Dividend in 5 years , d5= d0*(1+g)5 = 1.65*(1.19)5 = 3.937483539

earnings in 5 years, e5  = d5/d = 13.12494513

target stock price in five years = benchmark PE * e5 = 31*13.12494513 = 406.873299 or $406.87

2) required return, r = 10.5% = 0.105

jeff jeffy answered 2 years ago
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