B20. (Constant Growth Model) Medtrans is a profitable firm that is not paying a dividend on its common

B20. (Constant Growth Model) Medtrans is a profitable firm that is not paying a dividend on its common stock

Corporate Financial Management (3rd Edition): Emery, Douglas R., Finnerty, John D., & Stowe, John D. (2007)

Chapter 5, Problems: Individual assignment: Text Problem Set

B20 (Constant growth model) Medtrans is a profitable firm that is not paying a dividend on its common stock. James Weber, an analyst for A. G. Edwards, believes that Medtrans will begin paying a $1.00 per share dividend in two years and that the dividend will increase 6% annually thereafter. Bret Kimes, one of JamesÂ’ colleagues at the same firm, is less optimistic.

Bret thinks that Medtrans will begin paying a dividend in four years, that the dividend will be $1.00, and that it will grow at 4% annually. James and Bret agree that the required return for Medtrans is 13%.

a. What value would James estimate for this firm?

b. What value would Bret assign to the Medtrans stock? SOLUTION