NewTech Incorporated management plans on paying the company's first dividend of $2.00 three years from today (D3 = $2.00) on its' common stock. After year three the dividend is expected to grow at a constant rate of 5% thereafter. As an investor with a required rate of return of 15%, what would you pay for NewTech common stock today?

Stock price today = $13.807

Explanation:

According to the dividend valuation model, the current price of a stock is the present value of the expected future dividends discounted at the required rate of return

This principle can be applied as follows:

The value of cash flow the stock today is the present value of the future cash flow discounted at the required rate of return

Step 1 : Compute the PV in year 3 of future dividend

PV = D * (1+g) / r-g

D - div in year 3, g - growth rate, r-required rate of return

PV in year 3 = 2 * (1.05) / 0.15-0.05

= 21

Step 2: PV in year in year 0

PV = PV in year 3 * (1+r) ^ (-n)

r-rate of return - 15%, n - number of years - 3

= 21 * 1.15^ (-3)

=13.80784088

Stock price today = $13.807