div = $5 per year firm growth = 4% per year required r = 20% a. What should an investor pay in 1 year? (given answer = $32.5) b. What should an investor pay in 3 years? (given answer = $36.558) I do not understand the logic of the numerator in the given formula: P0 = D1/(r-g) my attempt: P1 = 5(1.04) / .16 = 32.50 P3 = 5(1.04)^4 / .16 = 36.558 Why isn’t the numerator raised to the 2nd power question a?
Surely it should be P3= 5(1.04)^3/.16.
For part b) P3 = 5(1.04)^4/.16 Since P3 = D4/r-g = D0*(1+ g)^4 /r-g
P3 = 5(1.04)^4/.16 P2 = 5(1.04)^3/.16 so why isnt P1 = 5(1.04)^2/.16
Oh I thought D1 = $5 based on part a). Anyway I would just dismiss it as a typo…
It should be ^2. You always use the next year’s projected dividend in the GGM. P1= 5*(1.04^2)/(.04-.20) Where does the question come from? Check the errata.
It’s from Becker (CPA stuff). I thought I was losing my mind or something. I’ll give them a call tonight and see whats up.
Here’s the correction from Becker “There is a small error in the book. In the first example it should state What will Able pay for Baker TODAY (not in one year). The writers are working on posting this correction. Today you would expect to pay $5.20. However in the 2nd example what would we pay in three years requires us to take the dividend today $5 X 1.04 to the 4th power is a short cut as discussed on the CD. The other way is to calculate the rate TODAY just like we did in the 1st example $5. X 1.04 = $5.20, now we have until the end of Year 1, end of Year 2 and the end of Year 3, so take the $5.20 X 1.04 X 1.04 X 1.04 = $5.84 / (.20-.04). The net is $36.53.”
Actually, the price today is 32.50 and the D1 is 5.20
pacmandefense, questions of providers have lots of errors and typos. It seems as if you understand the model really well. That’s sufficient for the exam.