Better Mousetraps has come out with an improved product, and the world is beating a path to its door. As a result, the firm projects growth of 18% per year for 4 years. By then, other firms will have copy technology, competition will drive down profit margins, and the sustainable growth rate will fall to 3%. The most recent annual dividend was DIV0=$1.2 per share a) What are the expected values of (i) DIV1, (i) DIV2, (i) DIV3, (i) DIV4? b) What is the expected stock price 4 years from now? The discount rate is 15% c) What is the stock price today? d) Find the dividend yield e) What will next year's stock price be? f) What is the expected rate of return to an investor who buys the stock now and sells it in 1 year?

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Business

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8 June, 18:56

Better Mousetraps has come out with an improved product, and the world is beating a path to its door. As a result, the firm projects growth of 18% per year for 4 years. By then, other firms will have copy technology, competition will drive down profit margins, and the sustainable growth rate will fall to 3%. The most recent annual dividend was DIV0=$1.2 per share a) What are the expected values of (i) DIV1, (i) DIV2, (i) DIV3, (i) DIV4? b) What is the expected stock price 4 years from now? The discount rate is 15% c) What is the stock price today? d) Find the dividend yield e) What will next year's stock price be? f) What is the expected rate of return to an investor who buys the stock now and sells it in 1 year?

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Answers (1)

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Jaydon Schmitt · Answer 1

Answer and Explanation:

Dividend = $1.2

Growth (g) = 18%

Time = 4 year

Discount rate = rs = 15%

Based on the above information, the calculations are as follows

a) Expected Values is

Div 1 = Div 0 * (1 + g)

Div 1 = $1.2 * (1 +.18) = $1.42

Div 2 = $1.42 * (1 +.18) = $1.68

Div 3 = $1.68 * (1 +.18) = $1.98

Div 4 = $1.98 * (1 +.18) = $2.34

b) Expected Stock price 4 years from now, if given discount rate is 15%.

Div 5 = Div 4 * (1 + g)

= $2.34 * (1 +.03)

= $2.41

Now 4 year price is

= Div 5 : (Rs - g)

= $2.41 : (.15 -.03)

= $2.41 :.12

= $20.083

c) Today stock Price is

= [PVF15%,1 * DIV 1] + [PVF15%,2 * DIV 2] + [PVF15%,3 * DIV 3] + [PVF15%,4 * DIV 4] + [PVF15%,4 * TV]

where,

Present Value Factor (PVF) = 1 : (1 + r) ^n

= [0.08695 * $1.42] + [0.7561 * $1.68] + [0.6575 * $1.98] + [0.5718 * $2.34] + [0.5718 * $20.083]

= $0.123 + $1.270 + $1.301 + $1.338 + $11.483

= $15.515 per share

d) Dividend Yield is

= Div 1 : Price

=$1.42 : $15.515

= 0.0915 or 9.15%

e) Next Year Stock Price is

=[PVF15%,1 * DIV 2] + [PVF15%,2 * DIV 3] + [PVF15%,3 * DIV 4] + [PVF15%,3 * TV]

=[0.08695 * $1.68] + [0.7561 * $1.98] + [0.6575 * $2.34] + [0.6575 * $20.083]

= $0.146 + $1.4971 + $1.5386 + $13.205

= $16.387 per share

f) Expected Rate of Return is

= [P1 - P0 + D1] : P

= [$16.387 - $15.515 + 1.42] : $15.515

= 0.14771 or 14.77%