Question

The Ramirez Company's last dividend was $1.75. Its dividend growth rate is expected to be constant at 24% for 2 years, after which dividends are expected to grow at a rate of 6% forever. Its required return (r) is 12%. What is the best estimate of the current stock price?

$42.48

$41.98

$43.11

$41.82

Answer 1

Dividend for year 1= $1.75*(1+0.24)= $2.1700

Dividend for year 2= $2.17*(1 + 0.24)= $2.6908

Dividend for year 3= $2.69*(1 + 0.06)= $2.8522

Stock value at the end of the second year= $2.8514/ (0.12 – 0.06)

                                                                               = $47.5367

Current stock Price= $2.17/(1 + 0.12)^1 + $2.69/(1 + 0.12)^2 + $47.5233

/(1 + 0.12)^2

                         = $1.9375 + $2.1445 + $37.8960

                         = $41.9780     $41.98

Therefore, the current stock price is $41.98.

Hence, the answer is option b.

In case of any query, kindly comment on the solution.