Question

Seinfeld Inc. just paid a dividend of $1.75 and projects supernormal growth of 15% for the next three years. Growth is then expected to slow down to a normal 5%. Similar stocks are earning investors a return of 10%

a) What is the intrinsic value of this stock?  

b) If the stock is selling for $60 on the NYSE should you buy it? Why or why not?  

Please show all work

Answer 1

a.$47.73

year	cash flow	PV factor	cash flow * PV factor
1	1.75+15%=>2.0125	1/1.10=>0.9091	1.82956375
2	2.0125+15%=>2.314375	1/(1.10)^2=>0.8264	1.9125595
3	2.314375+15%=>2.66153125	1/(1.10)^3=>0.7513	1.99960842812
3	(see note)55.89	1/(1.10)^3=>0.7513	41.990157
		total	47.73

the value of stock at the end of year 3

dividend of year 3(1+growth rate) / (required rate - growth rate)

=>2.66153125 *(1.05) / (0.10-0.05)

=>55.89.

b.No.

The stock should not be bought, since it is being sold at a higher valuation than its intrinsic value.

Rather it can be sold, to make some profits, before the price falls to its intrinsic value.