In: Finance
Red Sun Rising just paid a dividend of $2.49 per share. The company
said that it will increase the dividend by 25 percent and 20 over
the next two years, respectively. After that, the company is
expected to increase its annual dividend at 3.9 percent. If the
required return is 11.7 percent, what is the stock price today
Step 1: Computation of market price at the end of year 2 using Gordon Growth Mdel
P2 = D3 / (Ke – g)
Where,
P2 – share price in year 2 = ?
D3 – expected dividend in year 3 = 2.49*1.25*1.2*1.039 = 3.880665
Ke – Cost of equity = 11.7%
G – Growth rate in dividend = 3.9%
P2 = 3.880665/(.117-.039)
= 3.880665/0.078
= 49.75
Step 2: Computing current share price by discounting the cashflow at required return
Year | Dividend | [email protected]% | Present Value (Cashflow*PVF) |
1 | 3.11(2.49*1.25) | 0.895 | 2.79 |
2 | 53.49(3.11*1.2+49.75) | 0.801 | 42.87 |
current share price = Present Value
= 2.79+42.87
= $45.66
You can use the equation 1/(1+i)^n to find PVF using calculator