A firm has been growing at 20% per year, and you expect this growth rate will...

A firm has been growing at 20% per year, and you expect this growth rate will continue for another 3 years. After that it will face more competition and slip into a constant growth rate of 5% forever. If the discount rate is 10% and last dividend paid was $3.

(a) What will the next dividend be?
(b) What is the expected price of the stock 3 years from now?
(c) What should the stock price be today?

Expert Solution

D1=(3*1.2)=$3.6

D2=(3.6*1.2)=4.32

D3=(4.32*1.2)=5.184

P3=(D3*Growth rate)/(Required return-Growth rate)

=(5.184*1.05)/(0.1-0.05)

=$108.864

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

=3.6/1.1+4.32/1.1^2+5.184/1.1^3+108.864/1.1^3

=$92.53(Approx)

jeff jeffy answered 2 years ago

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