LML announced today that its next dividend will be $2.00 per share. Af

QUESTION

LML announced today that its next dividend will be $2.00 per share. After that dividend is paid, the company expects to encounter some financial difficulties and is going to suspend dividends for 10 years. after that a constant dividend of $1.50 per share will be paid annually. the market ra
We have two cash flows we must be concerned with, the $2.00/share dividend paid in one year and then the terminal value of the stream of dividend payments made 11 years in the future (1 year out for the $2 dividend and 10 years of no dividend.) The $2.00 dividend thats paid in one year must be discounted back one year at 12%. that is = $2/(1 0.12) = $1.79 In 11 years, (1 year out plus 10 years of no dividend) we must find the terminal value of $1.50 into the future with a growth rate of 0% and required return of 12%. Terminal value = (dividend x (1

))/(required return growth rate) Here dividend is $1.50, growth is 0% and required return is 12%. so the terminal value is $1.50/(0.12) = $12.50 But that $12.50 occurs in 11 years so we must discount is back to today for 11 years at 12% =12.50/((1 0.12)^11) = $3.59 we must add these two values up: $3.59 $1.79 = $5.38 which is the value of the stock. Hope this helps!

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