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Metallica Bearings, Inc., is a young start-up company. No dividends will be paid on the stock...

Metallica Bearings, Inc., is a young start-up company. No dividends will be paid on the stock over the next seven years, because the firm needs to plow back its earnings to fuel growth. The company will then pay a $12.10 per share dividend in year 8 and will increase the dividend by 5.50 percent per year thereafter. Required: If the required return on this stock is 12.50 percent, what is the current share price? (Select rounded answers as directed, but do not use the rounded numbers in intermediate calculations.) $67.37 $75.79 $83.37 $68.21 $172.86

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Answer #1

The question is solved by first computing the price of the stock year 9.

Price of the stock year 9 = Dividend in year 8 / Required return - Growth rate

= $12.10 / 0.1250 - 0.0550

= $12.10 / 0.07

= $172.86.

Current share price = Future value / (1 + Required return)^time

= $172.86 / (1 + 0.1250 )^7

= $172.86 / 2.2807

= $75.79.

Hence, the answer is option b.

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

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