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1) Annual dividends of General Electric (GE) grew from $0.75 in 2001 to $1.12 in 2006. What was...

Question:

1) Annual dividends of General Electric (GE) grew from $0.75 in 2001 to $1.12 in 2006. What was the annual growth rate?

2) Paychex Inc. (PAYX) recently paid a $0.90 dividend. The dividend is expected to grow at a 6 per cent rate. At a current stock price of $40.11, what is the return that shareholders are expecting?

3) A firm does not pay a dividend. It is expected to pay its first dividend of $0.35 per share in three years. This dividend will grow at 6 per cent indefinitely. Using an 11.5 per cent discount rate, compute the value of this stock.

4) A fast-growing firm recently paid a dividend of $0.25 per share. The dividend is expected to increase at a 15 per cent rate for the next 4 years. Afterwards, a more stable 6 per cent growth rate can be assumed. If a 15 per cent discount rate is appropriate for this stock, what is its value?

Dividend Yield:

The dividend yield is essentially the return on investment for a stock without any capital gains. It is one of the telling metrics for dividend investors.

Answer and Explanation:

1. Annual growth rate of General Electric (GE)

The time period is between 2001 to 2006 which is 5 years. So, the growth rate can be calculated as

Annual growth rate = {eq}($1.12 / $0.75)^ {1/5} -1 * 100\\ ($1.49 ^{0.2} - 1 ) * 100\\ (1.0830 - 1) * 100\\ 0.0830 * 100 = 8.30\% {/eq}


2. Expected Return

The formula for calculating the growth expected return can be given as

Expected Return = (D1 / P0) + Growth

where

D1 is the dividend paid and P0 is the current stock price.

  • = (($0.90 * 106%) / $40.11) + 6%
  • = $0.954 / $40.11 + 0.06
  • = 0.0238 + 0.06
  • = 0.0838 or 8.38%

The return expected by shareholders is 8.38%.

3. VALUE OF STOCK AT YEAR 3

Stock value = D4 / (Ke - Growth)

where

D4 is the dividend paid and Ke is the discount rate.

  • = $0.371 / (11.5% - 6%)
  • = $0.371 / 5.5%
  • = $6.75

Value of the stock now:

  • = ($6.75 * PVIF 11.5%), 3 Periods
  • = $6.75 * 0.7214
  • = $4.87

4. Stock value

Given information:

  • D0 = $0.25
  • D1 = $0.29
  • D2 = $0.33
  • D3 = $0.38
  • D4 = $0.44
  • D5 = $0.51

Value of stock at year 4 = D5 / (Ke - Growth)

  • = $0.51 / (15% - 6%)
  • = $0.51 / 9%
  • = $5.67

Value of stock now:

= {D1 * PVIF15%},1YR + {D2 * PVIF15%},2YR + {D3 * PVIF15%},3YR + {D4 * PVIF15%},4YR + {P4 * PVIF15%},4YR

= $0.29 * 0.8696 + $0.33 * 0.7561 + $0.38 * 0.6575 +$0.44 * 0.5718 + $5.67 * 0.5718

= $0.25 + $0.25 + $0.25 +$0.25 + $3.24

= $4.24


Learn more about this topic:

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What Is Dividend Yield? - Definition & Calculation

from Corporate Finance: Help & Review

Chapter 2 / Lesson 10
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