Matt asked in Business & FinanceInvesting · 7 years ago

Determining stock price?

ABC Corporation has just paid a dividend of $5. It is expected to pay an ANNUAL dividend, which grows at a constant rate of 2% for 3 years and stays flat thereafter. What should be the price of ABC stock if investors require a return of 8% per year on ABC stock?

I think I have to figure out the value for the first 3 years, and then figuring out what the value would be if it was just the constant dividend with no growth, and subtract the first 3 years of that and then add the first 3 years with growth.

I ended up getting $102.69 for my stock price, but I think I messed up. Thanks in advance for anyone that can help.

1 Answer

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  • 7 years ago
    Favorite Answer

    First, figure out your dividends....

    D1 = $5(1.02) = 5.10

    D2 = 5.10(1.02) = 5.202

    D3 = 5.202(1.02) = 5.30604

    D4 = 5.30604

    Price in year 4 = D3 / 0.08 = 5.30604/0.08 = 66.3255

    Total cash flow year 3 = D3 + P3 = 5.30604 + 66.3255 = 71.63154 <call this CF3

    Now discount all the cash flows...D1/(1.08) + D2/1.08^2 + CF3 /1.08^3

    = 66.04552, round to $66.05

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