In: Finance
Holt Enterprises recently paid a dividend, D0, of $1.50. It expects to have nonconstant growth of 19% for 2 years followed by a constant rate of 3% thereafter. The firm's required return is 8%.
(a)-(V)- The terminal, or horizon, date is the date when the growth rate becomes constant. This occurs at the end of Year 2.
(b)-Firm’s Horizon or Continuing Value
Dividend in Year 0 (D1) = $1.50 per share
Dividend in Year 1 (D1) = $1.7850 per share [$1.50 x 119%]
Dividend in Year 2 (D2) = $2.1242 per share [$1.7850 x 119%]
Dividend Growth Rate (g) = 3% per year
Required Rate of Return (Ke) = 8%
Firms Horizon or Continuing Value = D2(1 + g) / (Ke – g)
= $2.1242(1 + 0.03) / (0.08 – 0.03)
= $2.1879 / 0.05
= $43.76
“Firm’s Horizon or Continuing Value = $43.76”
(c)-Firms Intrinsic Value Today (P0)
Firms Intrinsic Value Today is the Present Value of the future dividend payments plus the present value of Firm’s Horizon or Continuing Value
Year |
Cash flow ($) |
Present Value factor at 8% |
Stock price ($) |
1 |
1.7850 |
0.92593 |
1.65 |
2 |
2.1242 |
0.85734 |
1.82 |
2 |
43.76 |
0.85734 |
37.52 |
TOTAL |
$40.99 |
||
“Hence, the Firms Intrinsic Value Today (P0) = $40.99”
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.