Question

TechNo Corp is a rapid-growth IT firm. TechNo expects to grow at 25% for the next four years. After year four, growth will moderate at 4.75%. TechNo expects to pay a dividend of $1.59 per share next year. If TechNo’s required return is 13.2% and the stock is currently selling at $45.77 per share, is the stock fairly valued? If not, by how much is it over- or under-valued?

Answer 1

	We have to compute the share price using divided discount model first
	Year over year dividend will grow by 24% for year 2 to year 4.
	i	ii	iii	iv=ii+iii	v	vi=iv*v
	Year	Dividend	Terminal value	Total cash flow	PVIF @ 13.2%	Present value
	1	1.59		1.59	0.883392226	1.40
	2	1.99		1.99	0.780381825	1.55
	3	2.48		2.48	0.689383238	1.71
	4	3.11	38.50	41.60	0.608995793	25.34
						30.00
		Terminal value =	3.11*104.75%/(13.2%-4.75%)
				38.50
	Therefore price should be $30 per share. Current price is $45.77. Therefore stock is over-valued.
	Overvalued by 45.77-30=	$            15.77