Question: A stock pays $2 now and the dividend grow at 90% for 1 year. Then it g

Question

Question:

A stock pays $2 now and the dividend grow at 90% for 1 year. Then it grows at 20% for 2 years. Finally, it grows at 2% perpetually. If the default (or risk) free rate is 4%, the Beta is 2, and the market premium is 3%, calculate the price.

Someone already solved this problem for me. However, in the last sentence, my professor added "If the default free rate is 4%, the bheta is 2, and the market premium is 3%, calculate the price. So, my professor added that the bheta is 2 to the sentence. Using the work that is already shown, could you please solve this problem with the Beta of 2 added. I need to answer this question for a take home assignment, so any help would mean a lot to me. Thanks in advance.

Expert Answer

Then it grows at 2% perpetually. For Constant Growth:

Price at the end of 2nd year is $273.6

For Single Period valuation:

Price at the end of 1st year is $267.46.

Therefore, Price at the beginning of the current year is $260.82.

Explanation / Answer

REQUIRED RETURN Ke

= Rf + BETA * MARKET PREMIUM

= 4% + 2 * 3%

= 4% + 6%

= 10%

D0 = 2

D1 = 2 * 190% = 3.80

D2 = 3.80 * 120% = 4.56

D3 = 4.56 * 120% = 5.47

D4 = 5.47 * 102% = 5.58

P0 = D1 / (1 + Ke)1 + D2 / (1 + Ke)2 + D3 / (1 + Ke)3 + D4 / (Ke - GROWTH) (1 + Ke)3

= 3.80 / (1.10) + 4.56 / (1.10)2 + 5.47 / (1.10)3 + 5.58 / (10% - 2%) (1.10)3

= 3.45 + 3.77 + 4.11 + 52.40

= 63.73

Related Questions

Navigate

• Browse (All)
• Browse Q
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.