Question

Enchancia Incorporated has common stock that is expected to grow at a rate of 25% over the next year. After this first year, it will stabilize to a 2% long-term growth rate. If the dividend just paid was $2.27 and the required rate of return on the stock is 9%, what is the value of the stock today (to 2 decimals)

Answer 1

The value of the stock today is $40.54

Step-by-step explanation:

The price of the stock today can be calculated using the two stage growth model of Dividend Discount Model approach. The DDM values the stock based on the present value of the expected future dividends of the stock. The price of this stock today can be calculated as follows,

P0 = 2.27*(1+0.25) / (1+0.09) + [ (2.27*(1+0.25)*(1+0.02) / (0.09-0.02)) / (1+0.09) ]

P0 = $40.535 rounded off to $40.54