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27 July, 18:52

Hi-Tek is a young start-up company that is currently retaining all of its earnings. The company plans to pay a $2 per share dividend in Year 7 and increase that dividend by 2.2 percent per year thereafter. What is the current share price if the required return is 16 percent? a) $5.95 b) $6 62 c) $8.59 d) $14 29

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  1. 27 July, 20:10
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    Option (a) is correct.

    Explanation:

    Given that,

    Dividend pay in year 7, D7 = $2 per share

    Growth rate of dividend, g = 2.2 percent per year

    Required return, ke = 16 percent

    Present value of the future dividend at year 6:

    = D7 : (ke - g)

    = $2 : (0.16 - 0.022)

    = $14.49

    Therefore, the present value of dividend now is as follows;

    = Present value of the future dividend at year 6 * (1 + ke) ^{-6}

    = $14.49 * (1 + 0.16) ^{-6}

    = $5.95
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