Answer:
The value of the stock = $19.64
Explanation:
According to the dividend valuation model, the value of a stock is the present value of the expected future cash flows from the stock discounted at the the required rate of return.
Year Workings Present value(PV)
1 $1 × (1.22) × 1.11^(-1) = 1.10
2 $1 × (1.22)^2 ×(1.11)^(-2) = 1.21
3 $1 × ((1.22)^2 × (1.05))/0.11-0.05) = 21.35 ( PV in year 2 terms)
PV (in year 0) of Year 3 dividend = 21.35 × 1.11^(-2)
= 17.33 (see notes)
The value of the stock = $1.10+ $1.21 + 17.3
= $19.64
Notes:
Note the growth applied to year 3 dividend gives the PV in year 2 terms. So we need to re-discount again to year 0.
The value of the stock = $19.64
