CFA Practice Question

CFA Practice Question

A stock is expected to start paying dividends in 3 years. The dividend is expected to be $0.4 that year. If the required rate of return is 12% and the dividend payout ratio is 40% from year 3 onwards, what is the value of the stock. Return on equity is constant at 15%.
A. $13.24
B. $13.33
C. $10.63
Explanation: g = RR x ROE
g = 0.6 x .15 = 0.09
Gordon's growth model: P = (0.4)/(.12-.09) = $13.33
But this is a price in two years, discount back to today: 13.33/1.122 = $10.63

User Contributed Comments 5

User Comment
neworizon good question
JeffAu Forgot to discount
praj24 fair play! forgot to discount too
EmmaBeale same...
mcfranz Anyone know why we're discounting back 2 years instead of 3? "Start paying dividends in 3 years..." I took that to mean we discount it back 3 years...
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