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Use the Excel Template and the following information to answer the next three questions: Peterson Packaging...

Use the Excel Template and the following information to answer the next three questions: Peterson Packaging Inc. does not currently pay dividends. The company will start with a $0.50 dividend at the end of year three and grow it by 10% for each of the next seven years until it nearly reaches $1.00. After seven years of growth, it will fix its dividend at $1.00 forever. The required return on the stock is 15%.

1. (EXCEL TEMPLATE) What is the current stock price? Use the NPV function.

2. (EXCEL TEMPLATE) What is the expected stock price in years 1-10? Use the NPV function.

3. (EXCEL TEMPLATE) Calculate the dividend yield and capital gains yield that an investor should expect for each year.

Solutions

Expert Solution

Year Dividend Price Div. yield Cap gains
0 $3.91
1 $          -   $4.50 0.00% 15.00%
2 $          -   $5.17 0.00% 15.00%
3 $      0.50 $5.45 9.18% 5.82%
4 $      0.55 $5.71 9.62% 5.38%
5 $      0.61 $5.97 10.14% 4.86%
6 $      0.67 $6.20 10.74% 4.26%
7 $      0.73 $6.39 11.45% 3.55%
8 $      0.81 $6.55 12.30% 2.70%
9 $      0.89 $6.64 13.33% 1.67%
10 $      0.97 $6.67 14.62% 0.38%
11 $      1.00

First, forecast the future dividends given the growth rate.

D3 = 0.5, D4 = 0.5 x (1 + 10%) = 0.55 and so on.. D11 = 1.00

Price in year 10, P10 = D11 / r = 1 / 15% = $6.67

Price in year 9, P9 = (D10 + P10) / (1 + r) = (0.97 + 6.67) / 1.15 = $6.64 and so on...

Dividend yields = Dn / Pn => Div yield in year 10 = 0.97 / 6.67 = 14.62%

Capital gains = 15% - dividend yields


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