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3 July, 10:32

If investors expect a total return of 14.60%, what will be Goodwin's expected dividend and capital gains yield in two years-that is, the year before the firm begins paying dividends? Again, remember to carry out the dividend values to four decimal places. (Hint: You are at year 2, and the first dividend is expected to be paid at the end of the year. Find DY₃ and CGY₃.) Expected dividend yield (DY₃) 7.34% Expected capital gains yield (CGY₃)

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  1. 3 July, 10:40
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    First Expected Dividend will come in at the end of Year 3 or t=3 assuming current time is t=0.

    D3 = $ 4.25, Growth Rate for year 4 and year 5 = 22.1 %

    Therefore, D4 = D3 x 1.221 = 4.25 x 1.221 = $ 5.18925 and D5 = D4 x 1.221 = 5.18925 x 1.221 = $ 6.33607

    Growth Rate post Year 5 = 4.08 %

    D6 = D5 x 1.0408 = 6.33607 x 1.0408 = $ 6.59459

    Required Return = 13.6 %

    Therefore, Current Stock Price = Present Value of Expected Dividends = [6.59459 / (0.136-0.0408) ] x [1 / (1.136) ^ (5) ] + 4.25 / (1.136) ^ (3) + 5.18925 / (1.136) ^ (4) + 6.33607 / (1.136) ^ (5) = $ 45.979 ~ $ 45.98

    Price at the end of Year 2 = P2 = Present Value of Expected Dividends at the end of year 2 = [6.59459 / (0.136-0.0408) ] x [1 / (1.136) ^ (3) ] + 4.25 / (1.136) + 5.18925 / (1.136) ^ (2) + 6.33607 / (1.136) ^ (3) = $ 59.3358 ~ $ 59.34

    Dividend Yield at the end of year 3 = DY3 = D3 / P2 = 4.25 / 59.34 = 0.07612 or 7.612 %

    Total Required Return = 14. 6 %

    Therefore, Required Capital Gains Yield = 14.6 % - 7.612 % = 6.988 %
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