Assume that the average firm in your company's industry is expected to grow at a constant rate of 5%,and its dividend yield is 4%.Your company is about as risky as the average firm in the industry,but it has just developed a line of innovative new products which leads to expect that its earnings and dividends will grow at a rate of 40% this year and 25% the following year,after which growth should match the 5% industry average rate.The last dividend paid was $2.What is the value per share of your firm's stock?

Question

Quizplus · Accepted Answer

Step 1 - Establish the required return for the stock. Industry expected growth rate (5%) + industry dividend yield (4%) = 9%.
Step 2 - Calculate the non-constant growth cash flows.
PV = 11ea7fdb_fbf4_a0fe_a768_c9729db90c7f_TB2902_11 = $2.57
PV = 11ea7fdb_fbf4_a0ff_a768_6793e0bff320_TB2902_11 = $2.95
Step 3 - Calculate the present value of the constant-growth cash flows and discount it back to today. 11ea7fdb_fbf4_a100_a768_09df4b3a4070_TB2902_11 = 11ea7fdb_fbf4_a101_a768_99d8b537df62_TB2902_11 11ea7fdb_fbf4_c812_a768_e1773f85855e_TB2902_11 = 11ea7fdb_fbf4_c813_a768_59c67beb6303_TB2902_11 = $91.88
PV = 11ea7fdb_fbf4_c814_a768_8b9cb4dff88e_TB2902_11 = $77.33
Step 4 - Add the present values together to get the current stock price.
2.57 + 2.95 + 77.33 = $82.85

Assume That the Average Firm in Your Company's Industry Is