ABCs stock dividend at the end of this year is expected to be $2.55, and it is e

Question

ABCs stock dividend at the end of this year is expected to be $2.55, and it is expected to grow at 11.7% per year forever.

a) If the required rate of return on ABC stock is 16.2% per year, what is its intrinsic value?

b) If ABCs current market price is equal to this intrinsic value, what is next years expected price?

c) If an investor were to buy ABC stock now and sell it after receiving the $2.55 dividend a year from now, what is the expected capital gain (i.e., price appreciation) in percentage terms? What is the dividend yield, and what would be the holding-period return?

Explanation / Answer

Intrinsic Value of the Share at Expected Return of 16.2% Value of Stock= Dividend per share after 1 Year/(Expected Rate of Return-Growth Rate) 2.55/(0.162-0.117) 56.67 Expected Value of Share After a Period of 1 Year Annual Dividend/ Current Price of the Share=2.55/56.67 0.044997 Expected Growth Rate 0.117 Total Growth Rate 0.161997 Expected Market Price After 1 Year=Current Price(1+0.162) 56.67(1.162) 65.85054 Expected Capital Gains After 1 Year=65.85-56.67=9.18 Rate of Yeild on Capital Gains=9.18/56.67 16.19905 Dividend Yeild=Dividend Received/Current Value*100 4.499735 Holding Period Return=(Capital Gain+Dividend)/Current Price 20.69878

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