Your broker offers to sell you some shares of Bahnsen & Co. common stock that paid a dividend of $1.25 yesterday. Bahnsen's dividend is expected to grow at 6% per year for the next 3 years. If you buy the stock, you plan to hold it for 3 years and then sell it. The appropriate discount rate is 11%.
a]
dividend in each of next 3 years = D0 * (1 + dividend growth rate for next 3 years)number of years from today
D1 = $1.25 * (1 + 6%)1 = $1.33
D2 = $1.25 * (1 + 6%)2 = $1.40
D3 = $1.25 * (1 + 6%)3 = $1.49
b]
present value of each dividend = dividend / (1 + discount rate)number of years after which dividend is paid
Sum of PVs of next 3 years dividends = $3.42
c]
present value of expected future stock price = expected future stock price / (1 + discount rate)3
present value of expected future stock price = $31.56 / (1 + 11%)3
present value of expected future stock price = $23.08
d]
Most you should pay = Sum of PVs of next 3 years dividends + present value of expected future stock price
Most you should pay = $3.42 + $23.08 = $26.50
Your broker offers to sell you some shares of Bahnsen & Co. common stock that paid...
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