Question

A company currently pays a dividend of $3.75 per share (D0 = $3.75). It is estimated that the company's dividend will grow at a rate of 22% per year for the next 2 years, and then at a constant rate of 5% thereafter. The company's stock has a beta of 2, the risk-free rate is 3.5%, and the market risk premium is 6%. What is your estimate of the stock's current price? Do not round intermediate calculations. Round your answer to the nearest cent.

Answer 1

As per CAPM

expected return = risk-free rate + beta * (Market risk premium)

Expected return% = 3.5 + 2 * (6)

Expected return% = 15.5

	Required rate=	15.50%
Year	Previous year dividend	Dividend growth rate	Dividend current year	Horizon value	Total Value	Discount factor	Discounted value
1	3.75	22.00%	4.575		4.575	1.155	3.961
2	4.575	22.00%	5.5815	55.815	61.3965	1.334025	46.0235
	Long term growth rate (given)=	5.00%			Value of Stock =	Sum of discounted value =	49.98

Where
Current dividend =Previous year dividend*(1+growth rate)^corresponding year
Total value = Dividend + horizon value (only for last year)
Horizon value = Dividend Current year 2 *(1+long term growth rate)/( Required rate-long term growth rate)
Discount factor=(1+ Required rate)^corresponding period
Discounted value=total value/discount factor