Assume Company X does not currently pay dividends but is expected to begin payin

Question

Assume Company X does not currently pay dividends but is expected to begin paying $2.00 Per share, each year for 3 years beginning 4 years from now. At the end of the 3 year period of $2.00 dividends per share, investors expect dividends to begin growing constantly by 4 percent per year. Further assume investors require a rate of return of 10 Percent.

A. What should be the price of the stock today? (Show Your Work)

B.What should investors expect the price of the stock will be one year from today? (Show your work)

Explanation / Answer

After 4 years, the company will pays $2 dividend per share, the growth rate is 4% and require a rate of return of 10%.

A) Stock Price after 4 years = P4 = Dividend * (1 + g) / R - g = 2 (1.04) / (0.10 - 0.04) = $34.66 per share

Current Stock Price = P = (dividend + P4) / (1 + R)4 = (2 + 34.66) / (1.10)4 = 36.66 / 1.4641 = $25.04 per share

B) Investors expect the price of the stock will be one year from today = P1 =

P1= (2 + 34.66) / (1.10)3 = 36.66 / 1.331 = $27.54 per share

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