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Bell Weather Industries just paid a $3.00 per share dividend. The company is planning on increasing its annual dividend by 10% a year for two years and then the annual growth rate will be 5% per year thereafter. What is the current value of one share of stock if the required rate of return is 8%. Show all work.

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Answer:

$114.05

Explanation:

Use dividend discount model to answer this question.

Formula; D1 = D0(1+g)

D1 = 3(1+ 0.10) = 3.30

D2 = 3.3 (1+ 0.10) = 3.63

D3 = 3.63(1+0.05) = 3.81

Next, find the Present values (PV) of each dividend;

PV (D1) = 3.30 /1.08 = 2.056

PV (D2) = 3.63/1.08² = 3.112

Next find PV of constant growing dividends;

PV (D3 onwards) =  [tex]\frac{\frac{3.81}{0.08-0.05} }{1.08^{2} }[/tex]

PV (D5 onwards) = 108.882

Next, sum up these PVs to find the price of the stock;

2.056 + 3.112+ 108.882  = $114.05

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