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Calculating Current share pricing?
Pepsi's annual dividend is expected to grow at 10% per year for the next two years, after which time the growth rate will be constant at 5%. If the required return for the stock is 12% and the most recent dividend was $3, what should be the current share price? (You may assume that the next dividend will be exactly one year from now.)
No idea what R should be
1 Answer
- MohammadLv 77 years agoFavorite Answer
1. Dividend after 2 years = $3(1+0.10)^2 ...... 10% is 0.10
Dividend after 2 years = $3(1.21) = $3.6
2. The question can be solved by using Growth Mldel for which the formula is:
P = D1/{r-g}
The variables are: P is the current stock price. g is the constant growth rate in perpetuity expected for the dividends. r is the constant cost of equity capital for that company. D1 is the value of the next year's dividends. There is no reason to use a calculation of next year's dividend using the current dividend and the growth rate, when management commonly disclose the future year's dividend and websites post it.
http://en.wikipedia.org/wiki/Gordon_model
3. Applying values to the above formula, we get:
Price = $3.6/{0.12-0.05} = ..............(12% = 0.12; 5% = 0.05)
OR
Price = $3.6/0.07 = $51.43
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Source(s): As Above . .
