Estimating the price of a common stock: Example problem

You are considering the purchase of a common stock that paid a dividend of $1.00 yesterday. You expect this stock to have a growth rate of 20% for the next 3 years, resulting in dividends of:

D1 = $1.20
D2 = $1.44
D3 = 1.73

The long run normal growth rate after year 3 is expected to be 8% (that is,a constant growth rate after year 3 of 8% per year forever). If you require a 12% rate of return, how much should you be willing to pay for this stock?

© SolutionLibrary Inc. 9836dcf9d7

Solution Preview

...nds after 3rd follow a constant growth model, value of all dividend payments to be received 4th year onwards (at the end of 3rd ...