Goodwin Technologies is a relatively young company. Goodwin has been widly succe

Question

Goodwin Technologies is a relatively young company. Goodwin has been widly successful, but it has yet to pay a dividend. An analyst has forecasted that Goodwin is likely to pay its first dividend three years from now. She expects Goodwin to pay a $3.0000 dividend at that time (D3 =$3.0000), and believes the dividend will grow by 15.60% for the following two years (D4 and D5). However, after five years, she expects Goodwin's dividend to grow at a constant rate of 3.78% per year.

1) If Goodwin's required return is 12.60%, what is Goodwin's horizon value at the horizon date-- when constant growth begins?

2) What is Goodwin's current intrinsic value?

If investors expect a total return of 13.60%, what will be Goodwin's expected dividend yield and capital gains yield in two years that is, the year before the firm begins paying dividends?

Explanation / Answer

D3= 3000,
D4 = 3000 * ( 1+15.6%) = 3468
D5 = 3000 * ( 1+15.6%)2 = 4009.08
D6= 3000 * ( 1+15.6%)2 * ( 1 + 3.78%)  = 4160.55
constant growth g = 3.78%
1) Terminal Value of Constant Growth dividends at (T=5 years) = D6/(r-g) = 4634.41/(12.6%-3.78%) = 47171.75
2)Current Intrinsic Value of Stock = D4/(1+r)4 + D5/(1+r)5 + Terminal Value/(1+r)5 =3468 /(1+12.6)4 + 4009.08/(1+12.6%)5 + 47171.75/(1+r)5 = 30,191.75

3) Now r =13.6%
Price at T=3 = D4/(1+r)1 + D5/(1+r)2 + Terminal Value/(1+r)2 = 3468 /(1+13.6)1 + 4009.08/(1+13.6%)2 + 47171.75/(1+13.6%)2 = 42712.63

Price at t=5 = D6/(r-g) = 4634.41/(13.6%-3.78%) = 47193.58
Dividend Yield = (D4 + D5)/(Price at T=3 ) = 15.84%
Capital gains = (47193.58-42712.63)/42712.63 = 10.49%

Best of Luck. God bless

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