A c ompany A company\'s common stock is selling for $16. The stock just paid a d
ID: 2702902 • Letter: A
Question
A company
A company's common stock is selling for $16. The stock just paid a dividend (D0) of $.60 and this dividend is expected to grow by 15% per year for three years. After that it will grow at a constant rate of 4%. The stock's beta is 1.7, the risk-free rate of interest is 1.75% and the market risk premium is 5.25%. According to the DCF model, what is the intrinsic value of the stock today? Given the current stock price today (P0 = $16), should you buy the stock and briefly explain why or why not?Explanation / Answer
Rrf = Risk-free rate
Rm = Market risk premium
Required Rate ( R ) = Rrf + B(Rm)
R = 1.75 + 1.7(5.25)
R = 1.75 + 8.925
R = 10.675 (I/Y for NPV)
D0 = .60 (not used when calculating NPV in calculator)
D1 = .60 x 1.15 = .6900
D2 = .69 x 1.15 = .7935
D3 = .7935 x 1.15 = .9125
D4 = .9125 x 1.04 = .9490
P3 = .9490 / (10.675
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