You are evaluating a stock for purchase. You estimate that the firm will pay the following dividends in the coming years:
Year 1: $2.00
Year 2: $2.50
Year 3: $3.00
After the third year the dividend is expected to grow at a long-term rate of 8%. Your required rate of return is 10%.
A. What is the intrinsic value of this stock?
B. Assume that the current price of the stock is $120. Should you purchase the stock? Explain.
C. If you purchase the stock at $120 and your estimates (of future dividends and prices) are correct, what is the expected rate of return on your investment?