Company A is reviewing an acquisition of Company B, which is currently in an intensive investment phase and will not change its dividend policy for the next 4 years. An annual $2.00 dividend is paid by Company B. Four years later, Company B should enjoy the benefits of investment and the dividends are expected to grow by 30% annually for 3 more years. After that, dividend will stabilize at 2% growth per year forever. If the proper discount rate for company of similar risk level should be 11% per year, what is the fair price of Company B's share (to 2 decimal places) ? Show your workings clearly. b. Explain the result if the growth rate is equal to, or greater than the market rate of return. What exactly is the market rate of return? c. P/Es (Price Earning ratios) do not really indicate anything about a company. Explain
1.a Company A is reviewing an acquisition of Company B, which is currently in an intensive investment phase and will not change its dividend policy for the next 4 years. An annual $2.00 dividend is paid by Company B. Four years later, Company B should enjoy the benefits of investment and the dividends are expected to grow by 30% annually for 3 more years. After that, dividend will stabilize at 2% growth per year forever. If the proper discount rate for company of similar risk level should be 11% per year, what is the fair price of Company B's share (to 2 decimal places) ?
Show your workings clearly.
b. Explain the result if the growth rate is equal to, or greater than the market
c. P/Es (Price Earning ratios) do not really indicate anything about a company. Explain.
Step by step
Solved in 5 steps with 2 images
