You own 2,200 shares of stock in Avondale Corporation. You will receive a $1.60

Question

You own 2,200 shares of stock in Avondale Corporation. You will receive a $1.60 per share dividend in one year. In two years, Avondale will pay a liquidating dividend of $60 per share. The required return on Avondale stock is 20 percent.

Ignoring taxes, what is the current share price of your stock? (Do not round intermediate calculations. Round your answer to 2 decimal places, e.g., 32.16.)

Share price $__________

If you would rather have equal dividends in each of the next two years, how many shares would you sell in one year? (Do not round intermediate calculations. Round your answer to 2 decimal places, e.g., 32.16.)

Number of shares $__________

What would your cash flow be for each year for the next two years? Hint: Dividends will be in the form of an annuity. (Do not round intermediate calculations.)

Cash flow $_____________

Explanation / Answer

A. Current Stock price = Present Value of future cashflows
= 1.60/(1.20) + 60/(1.20)^2
= 1.33 + 41.67
= $43.00

B. Let the no. of shares sold after one year be x.

x shares would be sold at the stock price after one year.
Price after one year (i.e after the first dividend is paid off) = 60/1.20 = $50

Thus,
2200 * 1.60 + x * 50 = (2200 - x)*60

3520 + 50x = 132000 - 60x

110x = 132000 - 3520 = 128480

x = 128480/110 = 1168 shares

C. Cashflow in year 1 = 3520 + 1168*50 = 61,920
Cashflow in year 2 = 1032 * 60 = 61,920

Thus cashflow in each of the 2 years equals $61,920

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