Question

A company just started to pay dividends. Its dividend payout ratio is 30%. An analyst expected the company growing fast at the following first two years at a dividend growth rate of 10% per year. After that the company will slow down to an annual growth rate of 5% forever. The company’s required rate of return is 8% per annual. If the company’s last annual earning is $10 per share, what’s the stock price the analyst should expect now?

A new issued ten-year maturity bond with coupon rate of 10% is selling at par ($1,000). If interest rate rise will rise from 10% to 15% after one year of purchasing the bond, what’s the bond’s rate of return at the end of the first year of purchasing?

A company just started to pay dividends. Its dividend payout ratio is 40%. An analyst expected the company growing fast at the following first two years at a dividend growth rate of 10% per year. After that the company will slow down to an annual growth rate of 5% forever. The company’s required rate of return is 14% per annual. If the company’s last annual earning is $10 per share, what’s the stock price the analyst should expect now?

Answer 1

1. Dividend paid = 10 *30% => $3.

As per Dividend growth Model

Current Price = Dividend at Year 1/ (1+ Cost of equity) + Dividend at Year 2/ (1+ Cost of equity)^2 + Dividend at Year 3/ (Cost of equity - growth of dividend) * (1+ Cost of equity)^2

Current Market Price = 3*1.1 / (1+0.08) + 3*1.1^2 / (1+0.08)^2 + 3*1.1^2*1.05 / (0.08-0.05) * ((1+0.08)^2

=> 115.09

2. PV of bond at year end 1. (Below is formula given to solve this problem in EXCEL)

=PV(15%,9,-1000*10%,-1000)

=> 761.42

Hence annual rate of return on bond =  100/ 761.42 => 13.13%

3. Dividend paid = 10 *40% => $4.

As per Dividend growth Model

Current Price = Dividend at Year 1/ (1+ Cost of equity) + Dividend at Year 2/ (1+ Cost of equity)^2 + Dividend at Year 3/ (Cost of equity - growth of dividend) * (1+ Cost of equity)^2

Current Market Price = 4*1.1 / (1+0.14) + 4*1.1^2 / (1+0.14)^2 + 4*1.1^2*1.05 / (0.14-0.05) * ((1+0.14)^2

=> 51.03

Please Upvote and Support!!