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Question:
XYZ Company plans not to pay out any dividends for the next four years. After four years, the company will maintain a dividend payout ratio of 45%. The company’s EPS in Year 4 is expected to be $4.50, and is expected to grow at 7% forever. Given a cost of equity of 12%, the current value of the stock is closest to:
A
$27.54.
explanation
EPS in Year 5 = 4.5 x 1.07 = $4.815
Dividend in Year 5 = 4.815 x 0.45 = $2.16675
Price at the end of Year 4 = 2.17 / (0.12 − 0.07) = $43.335
Current value of stock = 43.34 / (1.12)4 = $27.54
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