Maloney, Inc., has an odd dividend policy. The company has just paid a dividend of $2 per share and has announced that it will increase the dividend by $6 per share for each of the next five years, and then never pay another dividend. If you require a return of 12 percent on the company’s stock, how much will you pay for a share today? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

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stokholm stokholm · Answer 1 · 2019-07-24T08:56:11+02:00

Answer:

Current payment for buying stock shall be = $87.81

Explanation:

Current dividend = $2 Growth = $6 per year for 5 years

That is dividend at the end of 5th year = $2 + $6 + $6 + $6 + $6 + $6 = $32

After that g = 0

We have dividend growth model

P[tex]{_0}[/tex] = [tex]\frac{D{_1}}{Ke - g}[/tex]

That is P[tex]{_4}[/tex] = [tex]\frac{D{_5}}{Ke 0.12}[/tex]

Since after that g = 0 and Ke = Expected return = 12% = 0.12

P[tex]{_4}[/tex] = [tex]\frac{32}{0.12}[/tex] = $266.67

Now this present value shall be discounted to current year value for 4 years.

Formula for PVAF = [tex]\frac{1}{(1 + 0.12){^1}} + \frac{1}{(1 + 0.12){^2}} + \frac{1}{(1 + 0.12){^3}} + \frac{1}{(1 + 0.12){^4}}[/tex] = 3.037

P[tex]{_0}[/tex] = P[tex]{_4}[/tex] / PVAF (12%, 4) = $266.67 / 3.037

= $87.81

Current payment for buying stock shall be = $87.81