You expect that Bean Enterprises will have earnings per share of $2 for the coming year.Bean plans to retain all of its earnings for the next three years.For the subsequent two years,the firm plans on retaining 50% of its earnings.It will then retain only 25% of its earnings from that point forward.Retained earnings will be invested in projects with an expected return of 20% per year.If Bean's equity cost of capital is 12%,then the price of a share of Bean's stock is closest to:

Question

Quizplus · Accepted Answer

The price of the stock is calculated using the dividend discount model considering the retention and reinvestment strategy. The growth rate during the first three years is 20% (since all earnings are retained and reinvested at 20%). For the next two years, the growth rate is 10% (50% retention at 20% return), and thereafter, it is 5% (25% retention at 20% return). The price is calculated by discounting the expected future dividends back to the present value using the equity cost of capital of 12%.

You Expect That Bean Enterprises Will Have Earnings Per Share