Hi!

I have a question about sources of funds and cost of capital.

In the exercise I have attached, we are supposed to calculate the present value of common shares growing at a certain rate for 5 years.

I don't understand why in the first term of the calculation, (i.e. PV = 3*(1.05)*(P/C, 15%, 5%, 5), we choose 5 for the value of n. In my mind, the dividend D1 = 3*(1.05) only grows from year 1 to 5, which should be n = 4 instead of n=5.

I tried to do it and found two ways, which are not correct apparently:

1. PV = 3 (P/C, 15%, 5%, 5) + other term or
2. PV = 3*1.05 (P/C, 15%, 5%, 4)*(P/F, 15%, 1) + other term.

Could you please let me know what is wrong with my reasoning? thanks a lot in advance!

Cece

Professor Fl. Jessim Engineering Economy 5.2 SHARE PURCHASE PRICE 1 A share just paid a dividend of $3. Projections indicate that the dividend will grow at an annual rate of 5 percent and that the stock could be sold for $50 in 5 years' time. What maximum price would a potential investor pay to purchase the share it a return on investment of 15 percent is required? The maximum purchase price is the present value of all future benefits evaluated at a discount rate ot 15 percent, the desired return on investment. W = 3 (1.05) (PIC,15%,5%,5) + 50 (PrF,15%,5) = 3.15 (3.6546) + so (0.497?) = $36.37 50 Using CF worksheet: Enter CF1=3.15, CF2=3.31, CF3=3.47, CF4=3.65 and CF5=53.83 NPv, |=15%, l, CPT -) NPv=36.3? 501'14