Bus Val DGM

Examiner ‘s report F9 March 2016 has the following question: Cant Co has a cost of equity of 10% and has forecast its future dividends as follows: Current year: No dividend Year 1: No dividend Year 2 :$0.25 per share Year 3: $0.5 per share and increasing by 3% per year in subsequent years What is the current share price of Cant Co using the dividend valuation model? A. $7.35 B. $5.57 C. $6.11 D. $6.28 The model answer give the share price = (0.826*0.5)/(0.1-0.03)+0.826*0.25=$6.11 per share, which is C. I did it by the following method (that Sir John explained to someone in 2017) is it ok? If I told you that we had just paid a dividend of 0.50, then you would get the PV now by 0.50(1.03)/(0.10-0.03) = 7.357 this would be the PV of dividends from time 1 onwards. Now jump forward 3 years, and suppose again we have just paid a dividend of 0.50. If we then use the formula we would still get 7.357 as the PV in 3 years time, and this would be the PV for dividends from time 4 onwards. So now you have a dividend of 0.25 in 2 years time, a dividend of 0.50 in 3 years time, and a PV of the dividends from 4 years onwards as 7.357 in 3 years time. The PV of these is (0.25 x 0.826) + (0.50 x 0.751) + (7.357 x 0.751) = $6.11)