Erica is analyzing the shares of songatikamascompany. the company currently pays a dividend of $2.50. she believes the company has a new product that will result in supernormal growth of 20% for two years. once the market for this product is saturated, she expects the songatikamas? growth will fall to 3%, which is equal to the level of world economic growth. erica determines that the required return on songatikamasshould be 12%. what is the value of songatikamas? shares?

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QUESTION:

Erica is analyzing the shares of songatikamascompany. the company currently pays a dividend of $2.50. she believes the company has a new product that will result in supernormal growth of 20% for two years. once the market for this product is saturated, she expects the songatikamas? growth will fall to 3%, which is equal to the level of world economic growth. erica determines that the required return on songatikamasshould be 12%. what is the value of songatikamas? shares?

ANSWER:

To determine the value of Songatikamas’ shares, we need to calculate the present value of all expected future cash flows, which include dividends and the expected price of the stock.

First, we need to calculate the expected dividends for the next two years, taking into account the 20% growth rate. We can do this as follows:

Year 1 dividend: $2.50 x 1.20 = $3.00
Year 2 dividend: $3.00 x 1.20 = $3.60
After two years, we expect the growth rate to fall to 3%. We can calculate the expected dividend for Year 3 as follows:

Year 3 dividend: $3.60 x 1.03 = $3.71
To calculate the present value of these expected dividends, we need to discount them back to the present using the required return of 12%. We can use the following formula to calculate the present value of each dividend:

PV = Dividend / (1 + r)^n

Where PV is the present value of the dividend, Dividend is the expected dividend for a particular year, r is the required return, and n is the number of years in the future.

Using this formula, we can calculate the present value of each dividend as follows:

PV of Year 1 dividend: $3.00 / (1 + 0.12)^1 = $2.68
PV of Year 2 dividend: $3.60 / (1 + 0.12)^2 = $2.80
PV of Year 3 dividend: $3.71 / (1 + 0.12)^3 = $2.73
Next, we need to calculate the expected stock price after three years, which we can do using the dividend discount model as follows:

Expected stock price = (Expected Year 4 dividend / (r – g))

Where r is the required return and g is the expected growth rate in perpetuity. In this case, we assume that the growth rate will fall to 3% after two years, so we can use that as the expected growth rate in perpetuity.

Expected Year 4 dividend = Year 3 dividend x (1 + g) = $3.71 x 1.03 = $3.82

Expected stock price = ($3.82 / (0.12 – 0.03)) = $42.44

Finally, we can calculate the present value of the expected stock price using the dividend discount model:

PV of expected stock price = $42.44 / (1 + 0.12)^3 = $29.15

Adding up the present value of all expected dividends and the present value of the expected stock price, we get the value of Songatikamas’ shares:

Value of Songatikamas’ shares = $2.68 + $2.80 + $2.73 + $29.15 = $37.36

Therefore, the value of Songatikamas’ shares is $37.36.

So Answer for erica is analyzing the shares of songatikamascompany. the company currently pays a dividend of $2.50. she believes the company has a new product that will result in supernormal growth of 20% for two years. once the market for this product is saturated, she expects the songatikamas? growth will fall to 3%, which is equal to the level of world economic growth. erica determines that the required return on songatikamasshould be 12%. what is the value of songatikamas? shares? : the value of Songatikamas’ shares is $37.36.

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