Okra, Inc. is a young start-up company. No dividends will be paid on the stock initially, because the firm needs to plow back its earnings (i. e., not to pay out dividends) to fuel growth. Three years from today (t=3), Okra will pay its first annual dividend of $3 per share. Dividends will increase by 3% per year, thereafter. If the required rate of return on the Okra stock is 13%, what is the current share price of Okra?

Question

Business

Princess Cook

2 August, 15:53

Okra, Inc. is a young start-up company. No dividends will be paid on the stock initially, because the firm needs to plow back its earnings (i. e., not to pay out dividends) to fuel growth. Three years from today (t=3), Okra will pay its first annual dividend of $3 per share. Dividends will increase by 3% per year, thereafter. If the required rate of return on the Okra stock is 13%, what is the current share price of Okra?

+5

Answers (1)

Know the Answer?

Aleena Andrade · Answer 1

Stock price = $23.494

Explanation:

The price of a share can be calculated using the dividend valuation model

According to this model the value of share is equal to the sum of the present values of its future cash dividends discounted at the required rate of return.

If dividend is expected to grow at a given rate, the value of a share is calculated using the formula below:

Price=Do (1+g) / (k-g)

Year PV of dividend

3 3 * 1.13 ^ (-3) = 2.0791

Year 4 dividend and beyond

PV of dividend in year 3

3 * 1.03 / (0.13-0.03) = 30.9

PV of dividend in year 0

30.9 * 1.13^ (-3) = 21.4152

Stock price = 2.079 + 21.415 = $23.494

Stock price = $23.494