Question

9. Stocks that don't pay dividends yet Goodwin Technologies, a relatively young company, has been wildly successful but has yet to pay a dividend. An analyst forecasts that Goodwin is likely to pay its first dividend three years from now. She expects Goodwin to pay a $3.25000 dividend at that time (D. - $3.25000) and believes that the dividend will grow by 16.90000% for the following two years (D. and D.). However, after the fifth year, she expects Goodwin's dividend to grow at a constant rate of 3.84000% per year. Goodwin's required return is 12.80000%. Fill in the following chart to determine Goodwin's horizon value at the horizon date (when constant growth begins) and the current intrinsic value. To increase the accuracy of your calculations, do not round your intermediate calculations, but round all final answers to two decimal places. Term Value Horizon value Current intrinsic value Assuming that the markets are in equilibrium, Goodwin's current expected dividend yield is and Goodwin's capital gains yield is Goodwin has been very successful, but it hasn't paid a dividend yet. It circulates'a report to its key investors containing the following statement: Goodwin has a large selection of profitable investment opportunities. Is this statement a possible explanation for why the firm hasn't paid a dividend vet?

Answer 1

D3 = $3.25

It is expected that D4 & D5 grow at @ 16.9 %

Therefore,

D4 = $3.25 * 1.169 = $3.80

D5 = $3.80 * 1.169 = $4.44

After 5th Year she expect Dividend will grow at a constant rate of 3.84% p.a

Therefore,

Horizon price = D6/ Re-G

Where,

D6 = Expected dividend 6th Year

Re= Required rate of Return

G= Constant Growth

Horizon Price (P5) = D5*(1+G)/Re-G

Horizon Price (P5) = 4.44*1.0384 / 12.8%-3.84%

= 4.61 / 8.96%

Horizon Value (P5) = $51.45

Calculating Current Intrinsic value (IV0)

IV0 = D3 / (1+Re)^3 + D4 / (1+Re)^4 + P5 / (1+Re)^5

Where,

IV0 = Current Intrinsic Value

D3 = Expected Dividend 3rd Year

D4 = Expected Dividend 4th Year

P5 = Horizon Value at 5th Year

Re = Required rate of Return

Explanation = Current Intrinsic Value is Calculated based on Discounting of the Future Cash flows. That is why we Discount Future Dividends at the Required rate of Return.

IV0 = 3.25 / (1.128)^3 + 3.80 / (1.128)^4 + 4.44 / (1.128)^5 + 51.45 / (1.128)^5

= 2.26 + 2.35 + 2.43 + 28.17

IV0 = $ 35.21

Current Dividend Yield

Current Dividend Yield   = D1 / Current Market Price

= 0 / 35.21

Current Dividend Yield = 0 %

Circulation of Report to Key Investor's

We Board of Director of Goodwin's Technologies pleased to inform to our Investors that our Company has made a Huge profits this Financial year & we are pleased to inform you that we have seen some Profitable Investments opportunities for our Investors. That is why , we are not Declaring any Dividend this year.

Is this Statement possible explanation  for why the firm hasn't paid a dividend yet

As per my Opinion ,

Power to Propose a Dividend is in the hands of the Board of Directors . Investors has no right to Propose a Dividend but they have a right to Affirm the Proposed Dividend.

So, the Firm is Not required to to state an Explanation.

Answer 2

YES, the statement is a possible explanation

If a firm has a large selection of profitable investment opportunities, it will need capital to invest. For that reason, the firm will not want to pay out dividends, because it believes it can earn a better return on its projects than investors could if they reinvested dividends elsewhere. On the other hand, if the firm’s prospects are poor, it may feel that investors are better served by paying a dividend. That option allows investors to invest the money wherever they see fit.