dividend growth model for business valuation

If the question had said that the dividend was 25c in 1 years time, then you would simply have used the formula to get the current market value. The only thing is that the Do(1+g) in the formula would have been 25c (not 25c x 1.04).
This is because Do is the current dividend and therefore Do(1+g) would be the dividend in 1 years time.
So….if the question had said that the dividend was 25c in 1 years time, the MV now would be 25 / (0.09 – 0.04) = 500c (or $5).

However, everything in this question is identical to the above except that the dividend is 25c in 3 years time instead of 25c in 1 years time. So the dividends start 2 years later than normal (3 years – 1 year).

So using the formula gives a value of 500c two years later as well – i.e. a value in 2 years time instead of a value now.

So to get the value now, we need to discount the 500c for 2 years at the cost of equity of 9%, which gives a MV now of 421c ($4.21).

(I have done it per share and would then have multiplied it by the number of shares, whereas the examiners answer uses the total dividends and gets the total MV of all the shares directly. It doesn’t matter which of the two ways you do it.)

Hope that helps 🙂