The Felix Corp. will pay an annual dividend of $1.00 next year. The dividend will increase by 12 percent a year for the following two years before growing at 4 percent indefinitely thereafter. If the required rate of return is 10 percent, what is the stock’s current value?

Select one:

a. $13.38
b. $14.05
c. $19.11
d. $9.80
e. $10.38

c. $19.11.

Explanation:

The Felix Corp current stock value will be determined by using formula:

D1 / (1 + r) ^ 1 + D2 / (1 + r) ^ 2 + D3 / (1 + r) ^ 3 + D4 / (1 + r) ^ 3

It has paid dividend of $1.00 which will grow at 12% per year for 2 years and at 4% indefinitely after 2 years.

D1 = $1.00

D2 = $1.00 * 1.12 = $1.12

D3 = $1.12 * 1.12 = $1.25

D4 = ( $1.25 * 1.04 ) / (0.10 - 0.04) = $21.67

Using formula the stock value will be:

$1.00 / 1.10 + $1.12 / (1.10)2 + $1.25 / (1.10)3 + $21.67 / (1.10)3

Current stock value = $19.11.