Question

Mark Harris is interested in purchasing the common stock of Cullumber, Inc., which is currently priced at $62.77. The company is expected to pay a dividend of $2.58 next year and to increase its dividend at a constant rate of 9.85 percent. Calculate the expected dividend for the next year and the estimated stock price in two years.

Answer 1

The expected dividend for the next year is $2.83. The estimated stock price in two years is approximately $2073.33.

Step-by-step explanation:

To calculate the expected dividend for the next year, you need to use the constant growth model formula. The formula is: D1 = D0 * (1 + g), where D1 is the expected dividend for the next year, D0 is the current dividend, and g is the constant growth rate. In this case, D0 is $2.58 and g is 9.85%. Plugging in the values, D1 = $2.58 * (1 + 0.0985) = $2.58 * 1.0985 = $2.83.

To calculate the estimated stock price in two years, you can use the formula for the constant growth model of stock valuation. The formula is: P2 = D2 / (r - g), where P2 is the estimated stock price in two years, D2 is the expected dividend in two years, r is the required rate of return, and g is the constant growth rate. In this case, D2 is the dividend in the third year, which can be calculated using the formula: D2 = D1 * (1 + g) = $2.83 * (1 + 0.0985) = $2.83 * 1.0985 = $3.11. Assuming a required rate of return of 10%, plugging in the values, P2 = $3.11 / (0.10 - 0.0985) = $3.11 / 0.0015 ≈ $2073.33.