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 $1.25 coming 3 years from today. The dividend should grow rapidly - at a rate of 36% per year - during Years 4 and 5, but after Year 5, growth should be a constant 10% per year. If the required return on Computech is 12%, what is the value of the stock today? Do not round intermediate calculations. Round your answer to the nearest cent.

Answer 1

D3=1.25

D4=(1.25*1.36)=1.7

D5=(1.7*1.36)=2.312

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

=(2.312*1.1)/(0.12-0.1)

=127.16

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

=1.25/1.12^3+1.7/1.12^4+2.312/1.12^5+127.16/1.12^5

=$75.44(Approx)