The Bell Weather Co. is a new firm in a rapidly growing industry. The company is planning on increasing its annual dividend by 15% a year for the next four years and then decreasing the growth rate to 5% per year. The company just paid its annual dividend in the amount of $1.00 per share. What is the current value of one share if the required rate of return is 10%?

Question

Quizplus · Accepted Answer

Step 1: Calculate the dividends for the next four years
- Year 1 dividend = 1.00 x 1.15 = 1.15
- Year 2 dividend = 1.15 x 1.15 = 1.32
- Year 3 dividend = 1.32 x 1.15 = 1.52
- Year 4 dividend = 1.52 x 1.15 = 1.75

Step 2: Calculate the terminal value of the stock after four years
- Terminal value = 1.75 / (0.10 - 0.05) = 35

Step 3: Calculate the present value of the dividends and the terminal value
- PV of dividend at year 1 = 1.15 / 1.1 = 1.05
- PV of dividend at year 2 = 1.32 / 1.1^2 = 1.11
- PV of dividend at year 3 = 1.52 / 1.1^3 = 1.18
- PV of dividend at year 4 = 1.75 / 1.1^4 = 1.26
- PV of terminal value = 35 / 1.1^4 = 23.38

Step 4: Calculate the total present value of the stock
- Total present value = 1.05 + 1.11 + 1.18 + 1.26 + 23.38 = 27.98

Therefore, the current value of one share is $28.79, which is answer choice B.