Springboro Tech is a young start-up company. No dividends will be paid on the stock over the next 15 years, because the firm needs to plow back its earnings to fuel growth. The company will pay a $15 per share dividend in 16 years and will increase the dividend by 4 percent per year thereafter. What is the current share price if the required return on this stock is 8 percent

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Business

Sterling Bridges

1 August, 11:46

Springboro Tech is a young start-up company. No dividends will be paid on the stock over the next 15 years, because the firm needs to plow back its earnings to fuel growth. The company will pay a $15 per share dividend in 16 years and will increase the dividend by 4 percent per year thereafter. What is the current share price if the required return on this stock is 8 percent

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Mary · Answer 1

The price of stock today is $118.22

Explanation:

To calculate the price today, we will use the dividend growth model and discount back the cashflows. The first dividend will be received in year 16 so $15 received in year 16 will be dicounted back to year zero at 8% cost. Besides after that the growth rate becomes constant so the terminal value will be calculated at the end of year 16 and will be discounted back to year zero also using same 8% discount rate and 16 year as power.

P0 = 15 / (1+0.08) ^16 + [15 * (1+0.04) / 0.08-0.04] / (1+0.08) ^16

P0 = $118.22