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Question: Constant Dividend Growth

Unlike bond pricing, Excel does not have built-in functions forstock pricing, so we need to create our own equations. We willbegin with constant growth in dividends. Suppose we have a stockwith the following:

Current dividend: $ 2.40
Dividend growth rate: 5.00%
Required return: 13.00%
With this growth rate, the dividend next year will be:
Dividend next year:
So, the stock price today with the constant dividend growth modelis:
Stock price today:

Please help answer the question above "Stock Price Today:"

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Collen Von
Collen VonLv2
28 Sep 2019

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SHOW WORKFOR EACH QUESTION

1. Your parents have an investment portfolio of $400,000, and they wish to take out cash flows of $50,000 per
year as an ordinary annuity. How long will their portfolio last if the portfolio is invested at an annual rate of
4.90%? Use a calculator to determine your answer.


2. Johnson Construction Inc. has issued 20-year $1,000 face value, 17% annual coupon bonds, with a yield to
maturity of 11%. The current price of the bond is ________.


3. Suppose you invest $1,000 today, compounded quarterly, with the annual interest rate of 5.50%. What is
your investment worth in one year?

4. Your firm intends to finance the purchase of a new construction crane. The cost is $1,500,000. What is the
size of the annual ordinary annuity payment if the loan is amortized over a six-year period at a rate of 8.50%?

5. The next dividend (Div1) is $1.80, the growth rate (g) is 9%, and the required rate of return (r) is 12%.
What is the stock price, according to the constant growth dividend model?


6. You want to invest in a stock that pays $5.00 annual cash dividends for the next four years. At the end of
the six years, you will sell the stock for $20.00. If you want to earn 12% on this investment, what is a fair price
for this stock if you buy it today?

I Just have no idea where to start with this problem. Can someone just give me a run down or more?

Assume that it is now January 1, 2015. Wayne-Martin Electric
Inc. (WME) has developed a solar panel capable of generating 200% more electricity than
any other solar panel currently on the market. As a result, WME is expected to experience a
15% annual growth rate for the next 5 years. Other firms will have developed comparable
technology at the end of 5 years, and WME’s growth rate will slow to 5% per year
indefinitely. Stockholders require a return of 12% on WME’s stock. The most recent annual
dividend D0 , which was paid yesterday, was $1 75 per share.
a. Calculate WME’s expected dividends for 2015, 2016, 2017, 2018, and 2019.
b. Calculate the value of the stock today, Proceed by finding the present value of the
dividends expected at the end of 2015, 2016, 2017, 2018, and 2019 plus the present
value of the stock price that should exist at the end of 2019. The year-end 2019 stock
price can be found by using the constant growth equation. Notice that to find
the December 31, 2019, price, you must use the dividend expected in 2020, which is
5% greater than the 2019 dividend.

c. Calculate the expected dividend yield (D1/P0) , capital gains yield, and total return
(dividend yield plus capital gains yield) expected for 2015. (Assume that P0 = P0 and
recognize that the capital gains yield is equal to the total return minus the dividend
yield.) Then calculate these same three yields for 2020.

d. How might an investor’s tax situation affect his or her decision to purchase stocks of
companies in the early stages of their lives, when they are growing rapidly, versus
stocks of older, more mature firms? When does WME’s stock become“mature”for
purposes of this question?


e. Suppose your boss tells you she believes that WME’s annual growth rate will be only
12% during the next 5 years and that the firm’s long-run growth rate will be only 4%.
Without doing any calculations, what general effect would these growth rate changes
have on the price of WME’s stock?

f. Suppose your boss also tells you that she regards WME as being quite risky and that
she believes the required rate of return should be 14%, not 12%. Without doing any
calculations, determine how the higher required rate of return would affect the price of
the stock, the capital gains yield, and the dividend yield. Again, assume that the longrun growth rate is 4%

1) Your parents have an investment portfolio of $400,000, and they wish to take out cash flows of $50,000 per
year as an ordinary annuity. How long will their portfolio last if the portfolio is invested at an annual rate of
4.90%? Use a calculator to determine your answer.


2) Johnson Construction Inc. has issued 20-year $1,000 face value, 17% annual coupon bonds, with a yield to
maturity of 11%. The current price of the bond is ________.


3) Suppose you invest $1,000 today, compounded quarterly, with the annual interest rate of 5.50%. What is
your investment worth in one year?


4) Your firm intends to finance the purchase of a new construction crane. The cost is $1,500,000. What is the
size of the annual ordinary annuity payment if the loan is amortized over a six-year period at a rate of 8.50%?


5) The next dividend (Div1) is $1.80, the growth rate (g) is 9%, and the required rate of return (r) is 12%.
What is the stock price, according to the constant growth dividend model?


6) You want to invest in a stock that pays $5.00 annual cash dividends for the next four years. At the end of
the six years, you will sell the stock for $20.00. If you want to earn 12% on this investment, what is a fair price
for this stock if you buy it today?


7) Johnson has an annuity due that pays $600 per year for 15 years. What is the present value of the cash flows
if they are discounted at an annual rate of 9.50%?

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