Question #15
Reading: Reading 20 Discounted Dividend Valuation
PDF File: Reading 20 Discounted Dividend Valuation.pdf
Page: 6
Status: Incorrect
Correct Answer: A
Your Answer: B
Question
An analyst has forecasted dividend growth for Triple Crown, Inc., to be 8% for the next two years, declining to 5% over the following three years, and then remaining at 5% thereafter. If the current dividend is $4.00, and the required return is 10%, what is the current value of Triple Crown shares based on a three-stage model?
Answer Choices:
A. $91.11
B. $73.68
C. $92.23
Explanation
D1 = Year 1 dividend (after one year of 8% growth) = $4 × (1 + 0.08) = $4.32
PV(D1) = $4.32/(1+10%) = $3.93
D2 = Year 2 dividend (after two years of 8% growth) = $4 × (1 + 0.08)2 = $4.67
PV(D2) = $4.67/(1 + 10%)2 = $3.86
H-Model value as of the end of year 2
= D0 × (1 + gL)/(r − gL) + D0 × H ×(gS − gL)/r − gL
= $4.67 × (1 + 5%)/(10% − 5%) + $4.67 × (3/2) × (8% − 5%)/(10% − 5%)
= $102.18
PV(H-model) = 102.17664/(1.10)2 = $84.44
Total current value of Triple Crown shares:
V0 = PV(D1) + PV(D2) + PV(H-model) = $3.93 + $3.86 + $84.44 = $92.23