Question

Problem 7-05 Nonconstant Growth Valuation company curTently pays a dividend of $2.25 per share (Do $2.25 ). It is estimated that the company's dividend will grow at a rate of 15 % per vear for the next 2 vcars, and then at a constant rate of 5 % thereafter The company's stock has a beta of 1.4, the risk-free rate is 6 % , and the market risk premium is 3%. What is your estimate of the stock's current price? Do not round intermediate calculations. Round your answer to the nearest cent. S

Answer 1

Expected return = risk free rate + beta * market risk premium

value of stock = Present value of dividends + Horizontal value

Horizontal value = dividend next year/(Required return - growth rate)

05)

Expected return = risk free rate + beta * market risk premium

= 6% + 1.4 * 3%

= 10.2%

Horizontal value

= 2.25*1.15^2 * 1.05/(0.102-0.05)

= 60.0847355769

Current stock price

= 2.25*1.15/1.102 + 2.25*1.15^2/1.102^2 + 60.0847355769/1.102^2

= 54.28

06)

Current value

= Free cash flow next year/(Required return - growth rate)

= 480000*(1+5.7%)/(0.1425-0.057)

= 5934035.09