Final answer:
To calculate the share price for Babble, Inc., the PDV of upcoming dividends is determined using a 15% discount rate. The total PDV is then divided by the number of shares to find that each share would be valued at approximately $256,500.
Step-by-step explanation:
The question asks us to determine the value of a share of stock for Babble, Inc., a company that will be paying out its profits as dividends over the next two years before being disbanded. To do this calculation, we consider the present value (PDV) of the future dividends. Dividends are expected to be $15 million immediately, $20 million in one year, and $25 million in two years. We apply a discount rate to these future amounts to find their present values, sum these values, and then divide by the total number of shares issued to find the price per share.
Assuming a 15% interest rate, which acts as our discount rate for the PDV calculation, we apply it to each of the dividend amounts separately because they are received at different times. Once we determine the total PDV, we then divide by the number of shares, which in this case is 200, to find the price per share that an investor would be willing to pay given the expected profit distributions. The calculation results in an estimated price of approximately $256,500 per share for Babble, Inc.
It is important to recognize that in practice, estimating future profits and deciding on an appropriate discount rate can be highly subjective and dependent on a variety of factors, including market conditions, risk tolerance, and individual investor preferences.