ABC corporation stock is selling for Rs. 150 per share according to Karachi stoc

Question

ABC corporation stock is selling for Rs. 150 per share according to Karachi stock exchange market summary. A rumor about the company has been heard that the firm will make an exciting new product announcement next week. By studying the industry, it is being concluded that this new product will support a growth rate of 20% in dividend for two years. After that it is expected that the growth rate in dividend will decline to 6% and remains same onwards. The firm currently pays an annual dividend of Rs. 4. The rate of return on stocks like ABC corporation is 10%. Required: Find out the values for D1, D2 and D3 What will be the price of stock (P2) at the end of year 2? What will be the present value (Po) of stock? Should we buy stocks of ABC Corporation at Rs. 150?

Explanation / Answer

1)caliculate the devidend expected at the end of each year during the Non constant growth,D1=D0(1+gs) =4(1.20)^1 =4.8 D2=D1(1+gS)^2 =4.8(1.20)^2 = 6.912 After 2 years the dvidend will be decline to 8% and constant thereafter,so that we can value p3 price as per constant growth model Terminal or harizon value =D3/r-g D3 =d2(1+g) =6.912*(1.08) =7.46 2) the price of stock after 2 years: p2=D3/r-g = 7.46/0.10-0.08 =373.25 3)po=D1/(1+R)^1+d2/(1+R)^2+[(DN+1)/R-G]/(1+R)^N = 4.8/(1.10)^1+6.91/(1.10)^2+373.25/(1.10)^2 =4.36+5.71+308.47 =318.54 THERE FORE THE INTERSICK VALUE OF STOCK=318.54 4)We can buy this stock with R.s 150 at now.

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