Two-Period Example Now,what if you decide to hold the stock for two years?In addition to the $2 dividend in one year,you expect a dividend of $2.10 and a stock price of $14.70 both at the end of year 2.Now how much would you be willing to pay? ·PV=2/(1.2)+(2.10+14.70)/(1.2)2=13.33 ·Or CFo=0;C01=2;F01=1;C02=16.80;F02=1; NPV;I=20;CPT NPV=13.33 5
5 Two-Period Example n Now, what if you decide to hold the stock for two years? In addition to the $2 dividend in one year, you expect a dividend of $2.10 and a stock price of $14.70 both at the end of year 2. Now how much would you be willing to pay? § PV = 2 / (1.2) + (2.10 + 14.70) / (1.2)2 = 13.33 § Or CF0 = 0; C01 = 2; F01 = 1; C02 = 16.80; F02 = 1; NPV; I = 20; CPT NPV = 13.33
Three-Period Example Finally,what if you decide to hold the stock for three periods?In addition to the dividends at the end of years 1 and 2,you expect to receive a dividend of $2.205 and a stock price of $15.435 both at the end of year 3.Now how much would you be willing to pay? ·PV=2/1.2+2.10/(1.2)2+(2.205+15.435)/(1.2)3 =13.33 OrCF0=0;C01=2;F01=1;C02=2.10;F02=1; C03=17.64;F03=1;NPV;I=20;CPT NPV= 13.33 6
6 Three-Period Example n Finally, what if you decide to hold the stock for three periods? In addition to the dividends at the end of years 1 and 2, you expect to receive a dividend of $2.205 and a stock price of $15.435 both at the end of year 3. Now how much would you be willing to pay? § PV = 2 / 1.2 + 2.10 / (1.2)2 + (2.205 + 15.435) / (1.2)3 = 13.33 § Or CF0 = 0; C01 = 2; F01 = 1; C02 = 2.10; F02 = 1; C03 = 17.64; F03 = 1; NPV; I = 20; CPT NPV = 13.33
Developing The Model You could continue to push back when you would sell the stock You would find that the price of the stock is really just the present value of all expected future dividends -So.how can we estimate all future dividend payments?
7 Developing The Model n You could continue to push back when you would sell the stock n You would find that the price of the stock is really just the present value of all expected future dividends n So, how can we estimate all future dividend payments?
Estimating Dividends:Special Cases Constant dividend The firm will pay a constant dividend forever This is like preferred stock The price is computed using the perpetuity formula ■( Constant dividend growth The firm will increase the dividend by a constant percent every period Supernormal growth Dividend growth is not consistent initially,but settles down to constant growth eventually 8
8 Estimating Dividends: Special Cases n Constant dividend q The firm will pay a constant dividend forever q This is like preferred stock q The price is computed using the perpetuity formula n Constant dividend growth q The firm will increase the dividend by a constant percent every period n Supernormal growth q Dividend growth is not consistent initially, but settles down to constant growth eventually
Zero Growth If dividends are expected at regular intervals forever,then this is like preferred stock and is valued as a perpetuity ■Po=DIR Suppose stock is expected to pay a $0.50 dividend every quarter and the required return is 10%with quarterly compounding.What is the price? ·P0=.50/(.1/4)=.50/.025=$20 9
9 Zero Growth n If dividends are expected at regular intervals forever, then this is like preferred stock and is valued as a perpetuity n P0 = D / R n Suppose stock is expected to pay a $0.50 dividend every quarter and the required return is 10% with quarterly compounding. What is the price? § P0 = .50 / (.1 / 4) = .50 / .025 = $20