Stock Valuation

Stock Valuation – Universal Laser, Inc. just paid a dividend of $2.75 on its stock. The growth rate in dividend is expected to be a constant 6 percent per year, indefinitely. Investors require a 16 percent return on the stock for the first three years, a 14 percent return for the next three years, and then an 11 percent return thereafter. What is the current share price for the stock?

This stock has a constant growth rate of dividends, but the required return changes twice. 

P₆ = D₆ (1+g) / (R – g) = D₀ (1+ g)⁷ / (R – g) = $2.75 (1.06)⁷ / (0.11 – 0.06) = $82.70

Now we can find the price of the stock in year 3. We need to find the price here since the required return changes at that time.

P₃ = $2.75(1.06)⁴ / 1.14 + $2.75(1.06)⁵/1.14² + $2.75(1.06)⁶/1.14³ +$82.70/1.14³

P₃ = $64.33

Finally, we can find the price of the stock today.

P₀ = $2.75(1.06)/1.16 + $2.75(1.06)²/1.16² +$2.75 (1.06)³/1.16³ +$64.33/1.16³

P₀ = $48.12

Reference:  Chapter 9, Corporate Finance Book, Stephen A.Ross, Randolph W.Westerfield and Jeffrey Jaffe, Ninth Edition.