If the current dividend (D0 ) is $3.20, the expected rate of return (R) is 25%, and dividend growth rate (g) is 3%. What is the share price valuation in 4 years (P4 )?
Question
If the current dividend (D0 ) is $3.20, the expected rate of return (R) is 25%, and dividend growth rate (g) is 3%. What is the share price valuation in 4 years (P4 )?
Solution
To calculate the share price valuation in 4 years (P4), we first need to calculate the dividend in 4 years (D4).
Step 1: Calculate D4 We use the formula for future value of a growing annuity: D4 = D0 * (1 + g)^4 Where: D0 = current dividend = $3.20 g = dividend growth rate = 3% = 0.03
So, D4 = 3.20 * (1 + 0.03)^4 = $3.60 (approximately)
Step 2: Calculate P4 We use the Gordon Growth Model formula: P = D / (R - g) Where: D = D4 = $3.60 R = required rate of return = 25% = 0.25 g = dividend growth rate = 3% = 0.03
So, P4 = 3.60 / (0.25 - 0.03) = $16.36 (approximately)
Therefore, the share price valuation in 4 years is approximately $16.36.
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