2) The current stock price (year 0) of the Sizzling Sausage Corporation is $27.5
ID: 2821475 • Letter: 2
Question
2) The current stock price (year 0) of the Sizzling Sausage Corporation is $27.50. According to your information and analysis, you expect this company to pay its first dividend of $2.50 in year 2, and from year 3 on, you expect to see a steady growth in dividends. Specifically, you figure out that the dividends in year 3 will be $2.75 and will then continue to grow for another 15 years at 3.5% per year, after which it will grow 2.5% per year forever. The appropriate discount rate is 9%.
If you currently own this stock, ignoring transaction costs what should you do according to the above information - buy more stock at the current market price or sell your stock? (Explain your answer using quantitative analysis)
Explanation / Answer
terminal value = 4.607*1.025/(0.09 - 0.025) = 72.652
the intrinsic value of the stock = 41.21
so since the stock is undervalued today, one should buy more stock at current price
Discount rate 9.0000% Cash flows Year Discounted CF= cash flows/(1+rate)^year Cumulative cash flow - 0 - - - 1 - - 2.500 2 2.10 2.104 2.750 3 2.12 4.23 2.846 4 2.02 6.24 2.946 5 1.91 8.16 3.049 6 1.82 9.98 3.156 7 1.73 11.70 3.266 8 1.64 13.34 3.380 9 1.56 14.90 3.499 10 1.48 16.38 3.621 11 1.40 17.78 3.748 12 1.33 19.11 3.879 13 1.27 20.38 4.015 14 1.20 21.58 4.155 15 1.14 22.72 4.301 16 1.08 23.80 4.451 17 1.03 24.83 4.607 18 0.98 25.81 72.652 18 15.40 41.21Related Questions
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