Question

Computech Corporation is expanding rapidly and currently needs to retain all of its earnings; hence, it does not pay dividends. However, investors expect Computech to begin paying dividends, beginning with a dividend of $2.00 coming 3 years from today. The dividend should grow rapidly - at a rate of 18% per year - during Years 4 and 5, but after Year 5, growth should be a constant 5% per year. If the required return on Computech is 14%, what is the value of the stock today? Do not round intermediate calculations. Round your answer to the nearest cent.

Answer 1

D3=2

D4=(2*1.18)=2.36

D5=(2.36*1.18)=2.7848

Value after year 5=(D5*Growth rate)/(Required return-Growth rate)

=(2.7848*1.05)/(0.14-0.05)

=32.4893333

Hence current price=Future dividend and value*Present value of discounting factor(rate%,time period)

=2/1.14^3+2.36/1.14^4+2.7848/1.14^5+32.4893333/1.14^5

=$21.07(Approx)