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)
Constant growth starts after Year 3.
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
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)|
Current price = $42.92
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Learn more about this topic:
from Finance 101: Principles of FinanceChapter 14 / Lesson 3