1. Suppose you are looking at three companies with the following predicted dividend patterns:
Big Bob’s Year 1 1.50 Year 2 1.50 Year 3 1.50
Silly Sam’s 1.50 1.65 1.82
Tiny Tim’s 1.50 1.75 2.00
You expect that Big Bob’s and Silly Sam’s will continue with the same dividend pattern moving forward. For Tiny Tim’s you expect it to increase its dividend by a constant 10% starting in year 4.
The current stock price for each stock is as follows:
Big Bob’s – $10.00 Silly Sam’s – $82.00 Tiny Tim’s – $84.00
If you require 12% return on your investments, which stock would you prefer to buy and why? (Hint: use the dividend discount model and compare this value to the share prices above).