Question

Question Fou (3 Marks) 2) 22 CCGK Corp. is expected to pay $5 in 2020. Dividends will grow at a rate 10 % in 2021 and 2022. Afterwards, the company pledges to maintain a constant 5% growth rate in dividends, forever. If the required return on the stock is 11 %. what is the current share price?

Answer 1

Step-1, Dividend for the next 2 years

Dividend in Year 2020 (D0) = $5.00 per share

Dividend in Year 2021 (D1) = $5.50 per share [$5.00 x 110%]

Dividend in Year 2022 (D2) = $6.05 per share [$5.50 x 110%]

Step-2, The Price of the stock in year 2022

Dividend Growth Rate after 3 years (g) = 5.00% per year

Required Rate of Return (Ke) = 11.00%

Therefore, the Share Price in year 2022 = D3(1 + g) / (Ke – g)

= $6.05(1 + 0.05) / (0.11 – 0.05)

= $6.3525 / 0.06

= $105.88 per share

Step-3, Current price of the share

As per Dividend Discount Model, the selling price of the stock is the aggregate of the Present Value of the future dividend payments and the present value the share price in year 2022

Year	Cash flow ($)	Present Value factor at 11.00%	Present Value of cash flows ($)
2021	5.50	0.90090	4.95
2022	6.05	0.81162	4.91
2022	105.88	0.81162	85.93
TOTAL			95.80

“Hence, the Current share price will be $95.80”

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.