Question

Metallica Bearings, Inc., is a young start-up company. No dividends will be paid on the stock over the next 10 years because the firm needs to plow back its earnings to fuel growth. The company will then pay a dividend of $12.25 per share 11 years from today and will increase the dividend by 5.25 percent per year thereafter. If the required return on this stock is 13.25 percent, what is the current share price

Answer 1

Answer:

$44.12

Explanation:

For computing the current share price first we have to determine the price of the stock which is shown below:

Price of the stock = Next year dividend ÷ (Required rate of return - growth rate)

where,

Next year dividend equal to

= $12.25 + $12.25 × 5.25%

= $12.25 + 0.643125

= $12.893125

So, the price of the stock is

= $12.89 ÷ (13.25% - 5.25%)

= $12.89 ÷ 8%

= $161.1640625

Now the current share price is

= Present value of the dividend + present value of the price of stock

= $12.25 ÷ (1 + 13.25%)^11 +  $161.1640625 ÷ (1 + 13.25%)^11

= $44.12