Consider the publicly traded firm Gemma Corp. Their last dividend paid was $4.14. The growth rate is expected to be 7% for the next three years and then 3% forever after that. The firm's required return (r_s) is 11.0%. What is the best estimate of the current stock price? Do not round intermediate calculations.

• Step 1: draw the dividend timeline for this problem and grow each dividend by the appropriate rate- stop at year 4
  • D1= (4.14)*(1.07) - keep answers at 4 decimals
  • D2=(4.14)*(1.07)(1.07)
  • D3=(4.14)*(1.07)(1.07)(1.07)
  • D4=(4.14)(1.07)(1.07)(1.07)(1.03) - stop here
• Step 2: Using the dividend paid in year 4 (the first dividend calculated using constant growth) find the horizon value of the stock [D / (r-g)]
  • remember r and g should be used as decimals (0.11) and (0.03) since they are going into an equation
  • use the required rate of return for (r) and the stable growth rate for (g)
• Step 3: Be careful that this value belongs at year 3 (one year prior to the start of stable growth- remember this rule from the Chapter 5 perpetuities)
• Now discount everything in the timeline including the Horizon Value, D1, D2, and D3 to present value (remember finding the PV of uneven cash flow streams in Chapter 5)
• Add up all the present values and this is the answer
• Do not include the initial 4.14 in your answer this dividend is in the past, so it is not included. We are interested in future dividends that a shareholder would receive if the stock was purchased today.
• Your answer represents the estimate of the stock's true value in dollars
  • depending on how you rounded intermediate answers, you should be within $1.00 of the answer

		$59.29
		$65.29
		$70.36
		$79.54