3. Nonconstant growth stock A AE As companies evolve, certain factors can drive

Question

3. Nonconstant growth stock A AE As companies evolve, certain factors can drive sudden growth. This may lead to a period of nonconstant, or variable, growth. This would cause the expected growth rate to increase or decrease, thereby affecting the valuation model. For companies in such situations, you would refer to the variable, or nonconstant, growth model for the valuation of the company's stock. Consider the case of Portman Industries: Portman Industries just paid a dividend of $1.20 per share. The company expects the corning year to be very profitable, and its dividend is expected to grow by 20.00% over the next year. After the next year, though, Portman's dividend is expected to grow at a constant rate of 4.00% per year. Investors expect a required rate of return of 10.40% on Portman's stock Term Value Dividends one year from now (D:) Value of Portman's stock at the end of the nonconstant dividend- growth period Portman's stock price Assuming that the market is in equilibrium, use the information just given to complete the table. What is the expected dividend yield for Portman's stock today? 5.12% 6.79% 6.40% 6.15% Now let's apply the results of your calculations to the following situation: Portman has 1,000,000 shares outstanding, and Judy Davis, an investor, holds 15,000 shares at the current price (computed above). Suppose Portman is considering issuing 125,000 new shares at a price of $19.13 per share. If the new shares are sold to outside investors, by how much will Judy's investment in Portman Industries be diluted on a per-share basis? O $0.46 per share O $0.31 per share O $0.78 per share O $0.37 per share Thus, Judy's investment will be diluted, and Judy will experience a total of

Explanation / Answer

Current dividend D0 = $1.2

Dividend growth rate for this year = 20%

Dividend growth rate after this year = 4%

Rate of return = 10.4%

Dividend paid next year D1 = Dividend this year * (1+ growth rate of dividend) = $1.2 * 1.2 = $1.44

Dividend paid the year after that D2 = Dividend next year * (1+ growth rate of dividend next year) = $1.44 * 1.04 = $1.4976

Price next year P1 = Dividend in year 2 D2/ (rate of return - constant growth rate)

= $1.4976/(10.4%-4%) = $23.4

For Price this year, Dicount price and dividend for next year at 10.4%

P0 = P1 / (1+ 10.4%) + D1/ (1+10.4%) = $23.4/ 1.104 + $1.44/ 1.104 = $22.5

Expected dividend yield = D1/P0 = $1.44/$22.5 = 0.064 = 6.4%

-------------------------------------------------------------------

Shares outstanding = 1000000

Shares you own = 15000

Your current ownership = 15000/1000000 = 0.015

Total value of shares = 1000000* $22.5 = $22500000

New Shares issued = 125000

Total value of Shares now after issuance = $22500000 + $125000* $19.13

= $22500000 + $2391250 = $24891250

Total number of shares after issuance = 1000000 + 125000

Value of each share = Total value of shares after issuance / Total number of shares after issuance = $22.1255

Dilution in investment per share = $22.5 - $22.1255 = $0.3744

Related Questions

Navigate

• Browse (All)
• Browse 3
• Subjects

---

---

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