Question

Synovec Co. is growing quickly. Dividends are expected to grow at a rate of 24 percent for the next three years, with the growth rate falling off to a constant 5 percent thereafter. If the required return is 12 percent, and the company just paid a dividend of $3.85, what is the current share price?

Answer 1

This is question is based on Multiple Growth Dividend Discount Model.

To find out Current share price of Synovec Co we will use the following steps

Note - In the question it is stated that Synovec Co. just paid a $3.85 dividend which means this is D0

Firstly we will calculate Dividend for year 1,2 and 3

Dividend for year 1 or D1 = D0 *(1+growth rate)

D1 = $3.85 *(1+0.24)

D1 = $3.85 * 1.24

D1 = $4.77

Now we will calculate Dividend for year 2

D2 = D1 *(1+growth rate)

D2 = $4.77 * 1.24

D2 = $5.91

Dividend for year 3

D3 = D2 *(1+growth rate)

D3 = $5.91 * 1.24

D3 = $7.33

Now we will calculate value of share in two stages

Stage 1- Explicit Forecast Period (1st 3 years)

Stage 2 - Horizon Period - Beyond 3 years

Dividend for the 4th year or D4 = D3 * (1+growth rate)

Note : Beyond 3 years growth rate is 5%

Therefore D4 = $7.33 * (1+0.05)

$7.33 * 1.05

$7.70

Horizon Price i.e. P3 = D4/(Re - g)

P3 = Price of share in year 3

P3 = $7.70 / (0.12 - 0.05)

P3 = $7.70 / 0.07

P3 = $110

Present Value of P3 = $110 * Discounting factor @ 12 % of year 3

Present Value of P3 = $110 * 0.712

Present Value of P3 = $78.32

Therefore Current share price = Stage 1 + Stage 2

= $14.19 + $78.32

= $92.51

Therefore the Current share price of Synovec Co. is $92.51

(Note - Rounding off to 2 decimal places has been done)