Medtrans is a profitable firm that is not paying a dividend on its common stock.
B20.
(Constant growth model) Medtrans is a profitable firm that is not paying a
dividend on its common stock. James Weber, an analyst for A. G. Edwards,
believes that Medtrans will begin paying a $1.00 per share dividend in two
years and that the dividend will increase 6% annually thereafter. Bret Kimes,
one of James’ colleagues at the same firm, is less optimistic. Bret thinks that
Medtrans will begin paying a dividend in four years, that the dividend will be
$1.00, and that it will grow at 4% annually. James and Bret agree that the
required return for Medtrans is 13%.
a.
What value would James estimate for this firm?
b.
What value would Bret assign to the Medtrans stock?
SOLUTION PREVIEW
a. What value would James
estimate for this firm?
Dividend paid is $1
for 2 years and then it would grow at 6% annually from the third year, thus
find the value of the firm at the end of second year.
P1 = D2 / (r – g)
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