Assignment 1 Spring– 2021

Name: Yusra Imran Vekriwala Registration #: 49078

Subject: Principles of Finance Slot: Sunday; 8:30-11:30

Submission Date: 25 May 2021

Program: BBA Max. Marks: 05

Department of Business Administration

Question 01 05 Marks

Flare Stock will pay the dividend of $2.4 this year. Its dividend yield is 10%. At what price is the
stock selling?

Solution:
Annual Dividend
Stock Selling Price=
Dividend yeild

2.4
Stock Selling Price=
10 /100

2.4
Stock Selling Price=
0.1

Stock Selling Price=$ 2 4

Comment
Hence, the selling price of the stock is $24.
2. An oil company has issued preferred stock with $10 annual dividend that will be paid in
perpetuity.
a. If the discount rate is 14%. What price must the stock sale?

Solution:

Annual dividend
Stock price =
Discount rate

$ 10.00
Stock price =
0.14

Stock price = $71.43

Comment
Hence, the selling price of the stock is $71.42

3. Integrated Potato chips paid a $2 per share dividend yesterday. It is expected to grow
steadily at the rate of 4% per year.

a. What is expected dividend in each of next 3 years?

Solution:
 Calculating expected dividend in year 1 (D1):
D1 = D0 × (1+g)
D1 = $2 × (1+0.04)
D1 = $2.08
Where:
Current dividend payment (D0) = $2
Growth rate (g) = 4% or 0.04

 Calculating expected dividend in year 2 (D2):

D2 = D1 × (1+g)
D2 = $2.08 × (1+0.04)
D2 = $2.1632
Where:
Current dividend payment (D1) = $2.08
Growth rate (g) = 4% or 0.04

 Calculating expected dividend in year 3 (D3):

D3 = D2 × (1+g)
D3 = $2.1632 × (1+0.04)
D3 = $2.24976
Where:
Current dividend payment (D1) = $2.1632
Growth rate (g) = 4% or 0.04

b. If the discount rate of the stock is 12%. At what price will the stock sell if the forecasted
price at the end of third year is $20?

Calculating the current intrinsic value of the stock (P0)

 D1 D2 D3 P3
P0 = 1 + 2 + 3 + 3
(1+r ) (1+r ) (1+r ) (1+r )
$ 2.08 $ 2.1632 $ 2.24976 $ 20
P0 = 1 + 2 + 3 +
(1+0.12) (1+0.12) (1+0.12) (1+0.12)3
P0 = $19.2476

Where:
Expected dividend in year 1 (D1) = $2.08
Expected dividend in year 2 (D2) = $2.1632
Expected dividend in year 3 (D3) = $2.24973
Expected stock price in year 3 (P3) = $20

Comment
Thus, the stock should be selling now at $19.25 (rounded off).

c. What is the expected price after 3 years if today it is selling for $15?

Calculating the expected dividend in year 4 (D4):

D4=D0x (1+g)n
D4=$2 x (1+0.04)4
D4=$2.339717

Where:
Current dividend payment (D0) = $2
Constant growth rate (g) = 4% or 0.04
Number of years (n) = 4

Calculating the expected stock price in year 3 (P3):

D4
P3 =
r−g
 $ 2.339717
P3 =
(0.12−0.04)

P3 = $29.2464

Comment
Thus, the expected stock price in year 3 is $29.25

4. A company paid dividend $12. Company is expected to grow the dividend at 10% per
year for next 3 years and then at 6% per year forever. What is the price of stock at the end
of third year if your discount rate is 14%?

Dividend for year Growth rate Expected Dividend

0 $12.00
1 10% = 0.1 12*(1+0.1) =$13.20
2 10% = 0.1 13.2*(1+0.1) = $14.52
3 10% = 0.1 15.97*(1+0.1) = $15.97
4 6% = 0.06 15.97*(1+0.6) = $16.93

Dividend paid in year 3 $ 15.97

Expected dividend for year 3 $ 16.93

Direct calculation of expected dividend 12* 1.13 * 1.061 = $ 16.93

Growth rate for the period 0.06

Discount rate 0.14

15.97 16.93
Price of stock at the end of third year + = $199.64
1.14 1.14∗(0.14−0.06)

Comment
Price of stock at the end of third year will be $199.64