Question

Gruber Corp. pays a $9 dividend on its stock. The company will maintain this dividend for the next 3 years. In year 4, the dividend will increase to $10 and then grow at a constant 5 percent rate annually into perpetuity. If the required return on this stock is 10 percent, what is the current share price?

Answer 1

Share price Today = $172.574

Step-by-step explanation:

Using dividend growth model we can compute price of share after 3 years,

As follows:

`P_3 = (D_4)/(K_e - g)`

Where P3 = Price at end of year 3

D4 = Dividend at end of year 4 = $10

Ke = Cost of return = 10%

g = growth rate = 5%

P3 =
`(10)/(0.10-0.05)` = $200

Now, we have

Year Dividend or price Present value factor Present Value

1 $9 0.909 $8.181

2 $9 0.826 $7.434

3 $9 0.751 $6.759

3 $200 0.751 $150.20

Net Present value of share today = $172.574