Question

Metallica Bearings, Inc., is a young start-up company. No dividends will be paid on the stock over the next 11 years because the firm needs to plow back its earnings to fuel growth. The company will then pay a dividend of $13.75 per share 12 years from today and will increase the dividend by 5.5 percent per year thereafter. If the required return on this stock is 13.5 percent, what is the current share price

Answer 1

$42.69

Step-by-step explanation:

From the question above Metallica Bearings Inc. is expected to pay a dividend of $13.75 pet share for a period of 12 years

The dividend will increase by 5.5 percent per year

= 5.5/100

= 0.055

The required rate of return is 13.5 percent

= 13.5/100

= 0.135

The first step is to calculate the price at 11 years

Price at 11 years= 13.75/ 0.135-0.055

= 13.75/0.08

= $171.87

The next step in to find the current price by applying the following formular

Current share price= Future value/ (1+r)^n

= $171.875/ (1+0.135)^11

= $171.87/ 1.135^11

= $171.87/ 4.026

= $42.69

Current share price= $42.69

Hence the current share price is $42.69