Central Inc. has an 11.5% required rate of return. It does not expect

Central Inc. has an 11.5% required rate of return. It does not expect to initiate dividends for 20 years, at which time it will pay $3.75 per share in dividends.

At that time, Central expects its dividends to grow at 6% forever. What is an estimate of Central’s price in 20 years (P20) if its dividend at the end of year 20 is $3.75? What is its price in today’s dollars if you desire a rate of return of 12%?
What will be an ideal response?

ANSWER

Answer: We use the formula: Price = Div20 × . Inserting our values, we get: Price = P20 = $3.75 × = = $72.2727 or about $72.27. To get today’s price, we use the PVIF of with r = 0.12 and n =20 to get P0 = = $7.4923 or about $7.49.