Question

Please help!

Newman Manufacturing is considering a cash purchase of the stock of Grips Tool. During the year just​ completed, Grips earned

​$4.094.09

per share and paid cash dividends of

​$2.392.39

per share

​(D0equals=$ 2.39$2.39​).

​ Grips' earnings and dividends are expected to grow at

2020​%

per year for the next 3​ years, after which they are expected to grow

66​%

per year to infinity. What is the maximum price per share that Newman should pay for Grips if it has a required return of

1010​%

on investments with risk characteristics similar to those of​ Grips?  

Answer 1

D0 = 2.39

D1 = D0 * (1+ growth rate)^time

= 2.39 * (1+.20)

= 2.868

D2 = 2.868 * (1+.20)

= 3.4416

D3 = 3.4416 * (1+.20)

= 4.13

terminal value in year 3 = D3(1+growth rate) / (Return - growth rate)

= 4.13 * (1+.06) / (10%-6%)

= 4.38 / (10%-6%)

= 109.443

Calculating the present value

= 2.868/(1+.10)^1 + 3.44/(1+.10)^2 + 4.13/(1=.10)^3 + 109.443 / (1+.10)^3

= 90.78