1. Two-stage DCF model Company

1. Two-stage DCF model Company Z-prime is like Z in Problem 10 in all respects save one: Its growth will stop after year 4. In year 5 and afterward, it will pay out all earnings as dividends. What is Z-prime’s stock price? Assume next year’s EPS is $15.

2. Two-stage DCF model* Consider the following three stocks:

a. Stock A is expected to provide a dividend of $10 a share forever.

b. Stock B is expected to pay a dividend of $5 next year. Thereafter, dividend growth is expected to be 4% a year forever.

c. Stock C is expected to pay a dividend of $5 next year. Thereafter, dividend growth is expected to be 20% a year for five years (i.e., years 2 through 6) and zero thereafter.

If the market capitalization rate for each stock is 10%, which stock is the most valuable? What if the capitalization rate is 7%?

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