Question

You own a company that competes with Old World DVD Company. Instead of selling DVDs, however, your company sells music downloads from a Web site. Things are going well now, but you know that it is only a matter of time before someone comes up with a better way to distribute music. Your company just paid a $2.36 per share dividend, and you expect to increase the dividend 10 percent next year. However, you then expect your dividend growth rate to begin going down—to 5 percent the following year, 2 percent the next year, and to -3 percent per year thereafter. Based upon these estimates, what is the value of a share of your company’s stock? Assume that the required rate of return is 15 percent. (Round dividends in intermediate calculations to 4 decimal places, e.g. 1.5325 and final answer to 2 decimal places, e.g. 15.25.)

Answer 1

	Required rate=	15.00%
Year	Previous year dividend	Dividend growth rate	Dividend current year	Horizon value	Total Value	Discount factor	Discounted value
1	2.36	10.00%	2.596		2.596	1.15	2.2574
2	2.596	5.00%	2.7258		2.7258	1.3225	2.0611
3	2.7258	2.00%	2.780316	14.983	17.763316	1.520875	11.67967
	Long term growth rate (given)=	-3.00%			Value of Stock =	Sum of discounted value =	16
Where
Current dividend =Previous year dividend*(1+growth rate)^corresponding year
Total value = Dividend + horizon value (only for last year)
Horizon value = Dividend Current year 3 *(1+long term growth rate)/( Required rate-long term growth rate)
Discount factor=(1+ Required rate)^corresponding period
Discounted value=total value/discount factor