A firm recently paid a $0.30 annual dividend. The dividend is expected to increase by 8 percent in each of the next four years. In the fourth year, the stock price is expected to be $60. If the required rate for this stock is 10 percent, what is its value?

Question

Quizplus · Accepted Answer

The value of the stock is calculated using the dividend discount model for a growing dividend, which involves discounting each of the expected dividends and the stock price in the fourth year back to their present value. The dividends grow at 8% per year, so the dividends for the next four years are $0.30*(1.08)^1, $0.30*(1.08)^2, $0.30*(1.08)^3, and $0.30*(1.08)^4. The present value of these dividends plus the present value of the stock price in the fourth year, discounted at the required rate of return of 10%, gives the current value of the stock. Calculating these values and summing them up gives a value close to $42.13.

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