Question

Use the information about Company X below to help answer this question:

The company just paid out $60M in dividends.
Dividends will grow at 12% for each of the next 5 years.
Dividends will grow at 8% every year thereafter (beginning in year 6)
The company has 75M shares outstanding
The company's cost of equity is 16%
The company's WACC is 10%

Using the Dividend Discount Model for Non-Constant growth, the value of one share of the company's stock today is closest to:_______

a. $12.00
b. $12.67
c. $22.40
d. $41.50
e. $51.50

Answer 1

b. $12.67

Step-by-step explanation:

The value of the company is the present value of its future dividends payments discounted at the company's cost of equity.

Year 1 dividend=current year dividend*(1+12%)

Year 1 dividend=$60m*(1+12%)=$67.20m

Year 2 dividend=$67.20m*(1+12%)=$75.26m

Year 3 dividend=$75.26m*(1+12%)=$ 84.30m

Year 4 dividend=$ 84.30m*(1+12%)=$ 94.41m

Year 5 dividend=$ 94.41m*(1+12%)=$105.74m

the terminal value of dividends=Year 5 dividend*(1+terminal growth rate)/(cost of equity)

the terminal value of dividends=$105.74m*(1+8%)/(16%-8%)=$1427.49m

value of the company=$67.20/(1+16%)^1+$75.26/(1+16%)^2+$ 84.30/(1+12%)^3+$ 94.41/(1+16%)^4+$105.74/(1+16%)^5+$1427.49/(1+16%)^5

value of the company=$956.00 m

value of one share=$956.00 m/75m=$12.75(the correct option is $12.67 the difference is due to rounding error)