Question

Assume Highline Company has just paid an annual dividend of $ 1.02 Analysts are predicting an 10.1 % 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 5.7 % per year. If​ Highline's equity cost of capital is 9.3 % per year and its dividend payout ratio remains​ constant, for what price does the​ dividend-discount model predict Highline stock should​ sell?

The value of​ Highline's stock is ​$

Answer 1

Step-1, Dividend per share for the next 5 years

Dividend per share Year 1 (D1) = $1.1230 per share [$1.02 x 110.10%]

Dividend per share Year 2 (D2) = $1.2364 per share [$1.1230 x 110.10%]

Dividend per share Year 3 (D3) = $1.3613 per share [$1.2364 x 110.10%]

Dividend per share Year 4 (D4) = $1.4988 per share [$1.3613 x 110.10%]

Dividend per share Year 5 (D5) = $1.6502 per share [$1.4988 x 110.10%]

Step-2, Calculation of Stock Price for the Year 5 (P5)

Stock Price for the Year 5 (P5) = D5(1 + g) / (Ke – g)

= $1.6502(1 + 0.057) / (0.093 – 0.057)

= $1.7443 / 0.036

= $48.45 per share

Step-3, The Value of the Stock

The company’s stock price is the Present Value of the future dividend payments and the present value the stock price for the year 5

Year	Cash flow ($)	Present Value factor at 9.30%	Stock price ($)
1	1.1230	0.914913	1.03
2	1.2364	0.837066	1.03
3	1.3613	0.765843	1.04
4	1.4988	0.700679	1.05
5	1.6502	0.641061	1.06
TOTAL			$36.27

“Hence, the value of​ Highline's stock would be $36.27”

NOTE

The Formula for calculating the Present Value Factor is [1/(1 + r)ⁿ], Where “r” is the Discount/Interest Rate and “n” is the number of years.