Need help in udnerstanding the method of valuing stocks
| The CFO of a publicly traded chemical manufacturer is in the process of evaluating the company's dividend policy in relation to shareholder value. The company's dividend per share has been held constant at $2.30 for the last 10 years. The CFO would like to implement a 5% yearly dividend growth policy at the company starting next year. The CFO has determined that the required return in the market for the company's stock is 13%.
What is the forecasted value of the company stock in 5 years if the CFO's dividend growth policy is implemented?
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Answer (A) is correct.
The dividend discount model (also known as the dividend growth model) is a method of arriving at the value of a stock by using expected dividends per share and discounting them back to present value. The expected dividend at the end of 5 years is calculated as $3.08221997 [$2.30 dividend × (1 + .05 growth rate)6 ]. Thus, the forecasted value of one share of stock in 5 years is calculated as $38.53 [$3.08221997 next dividend ÷ (13% cost of capital – 5% dividend growth rate)]. |
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Tayba Al-Mehdar
Analyst
Khobar
Saudi Arabia
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