Question

Assume Highline Company has just paid an annual dividend of $0.93. Analysts are predicting an 11.5% per year growth rate in earnings over the next five years. After​ then, Highline's earnings are expected to grow at the current industry average of 5.6% per year. If​ Highline's equity cost of capital is 8.7% per year and its dividend payout ratio remains​constant, for what price does the​ dividend-discount model predict Highline stock should​ sell?

Answer 1

D1=(0.93*1.115)=1.03695

D2=(1.03695*1.115)=1.15619925

D3=(1.15619925*1.115)=1.28916216

D4=(1.28916216*1.115)=1.43741581

D5=(1.43741581*1.115)=1.60271863

Value after year 5=(D5*Growth rate)/(Equity cost of capital-Growth rate)

=(1.60271863*1.056)/(0.087-0.056)

=54.5958346

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

=1.03695/1.087+1.15619925/1.087^2+1.28916216/1.087^3+1.43741581/1.087^4+1.60271863/1.087^5+54.5958346/1.087^5

=$41(Approx)