# Crystal Glass recently paid $3.60 as an annual dividend. Future dividends are projected at$3.80,...

## Question:

Crystal Glass recently paid $3.60 as an annual dividend. Future dividends are projected at$3.80, $4.10, and$4.25 over the next 3 years, respectively. Beginning 4 years from now, the dividend is expected to increase by 3.25 percent annually.

What is one share of this stock worth to you if you require a 12.5 percent rate of return on similar investments?

## Dividend growth model:

Dividend growth model is the model which gives the return or the price of the stock in case the company pays dividends perpetually with a constant growth rate. It follows the concept of present value of perpetuity.

## Answer and Explanation:

As per Dividend Growth Model,

Price of the stock when perpetual dividend with constant growth starts = Next year dividend / (Return - Growth)

Now,

Constant growth starts after Year 3.

So,

Price at Year 3
= Dividend at Year 4 / (0.125 - 0.0325)
= (D3 x (1 + Growth)) / 0.0925
= 4.25 x 1.0325 / 0.0925
= $47.4392 Current price = Present value of all future dividends and the price at year 3 Present value of all future cash flows @ 12.5% is: Year Total Benefits (a) Discounting Factor (b ) = (1/1+r)^n P.V. (c ) = (axb) 0 - 1.0000 - 1 3.80 0.8889 3.38 2 4.10 0.7901 3.24 3 51.69 0.7023 36.30 SUM (PV) 42.92 So, Current price =$42.92

#### Learn more about this topic:

The Dividend Growth Model

from Finance 101: Principles of Finance

Chapter 14 / Lesson 3
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