A financial analyst expects Crane Service Inc.to pay a dividend of $2 per share one year from today,a dividend of $3 per share in years two,and estimates the value of the stock at the end of year two to be $22.If your required return on Crane Service stock is 14 %,what is the most you would be willing to pay for the stock today if you plan to sell the stock in two years?

Question

Quizplus · Accepted Answer

To find the present value of the expected cash flows, we discount each cash flow back to the present value at the required return rate of 14%. The formula for the present value (PV) of each cash flow (CF) is: PV = CF / (1 + r)^n, where r is the required return rate and n is the number of years until the cash flow is received.1. For the $2 dividend in one year: PV = $2 / (1 + 0.14)^1 = $2 / 1.14 = $1.75 approximately.2. For the $3 dividend in two years: PV = $3 / (1 + 0.14)^2 = $3 / (1.14)^2 = $2.30 approximately.3. For the stock value of $22 in two years: PV = $22 / (1 + 0.14)^2 = $22 / (1.14)^2 = $16.94 approximately.Adding these present values together gives the total present value of the expected cash flows: $1.75 + $2.30 + $16.94 = $20.99.Therefore, the most one would be willing to pay for the stock today, given the required return of 14%, is $20.99.

A Financial Analyst Expects Crane Service Inc