DDM Question

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soxboys21

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Deployment Specialists pays a current (annual) dividend of $1.00 and is expected to grow at 20% for two years and then at 4% thereafter. If the required return for Deployment Specialists is 8.5%, the current value of Deployment Specialists is closest to:
A) $33.28.
B) $28.27.
C) $30.60.
Your answer: C was correct!
First estimate the amount of each of the next two dividends and the terminal value. The current value is the sum of the present value of these cash flows, discounted at 8.5%.
When I calculated this, I got something different:
D1 = 1.00 x 1.20 = 1.20
D2 = 1.20 x 1.20 = 1.44
D3 = 1.44 x 1.05 = 1.50
V3 = 1.50/.085-.04 = 33.33
Using the CF function, I get a value of 29.60.
Am I doing something wrong?
 
D0 = 1
D1 = 1.20
D2 = 1.44
D3 = 1.4976
D4 = 1.557504
V4 = 1.557504/0.045 = 34.6112
CF0=1.20
CF1=1.44
CF2 = 36.1088
I = 8.5%
CPT->NPV = 30.599 = C
 
> D3 = 1.44 x 1.05 = 1.50
> V3 = 1.50/.085-.04 = 33.33
V3 is not d3/(r-g) its d4(r-g)
 
i get C
maybe you took 1.50 as the D3 cash flow. remember, add 1.5 (your D3 terminal value) to the D2 cash flow, and then discount D1 and D2.
EDIT - my bad. add your terminal value (33.3) to your D2 value, and then discount the resulting D1 and D2. there should be no need to do a D3 or D4 since the first line of the problem mentions two years.
 
So eventhough there’s 2 years of 20% and the 4% starts in year 3, I go out to year 4 to get the terminal value?
Why can I not get this right…
 
where did you guys get 5% from. stable growth is 4%
it is a typo
got it answer is C
 
shouldn’t matter cfaboston. with the 1.05 sustainable rate your PV calc should result in $30.64. with a 1.04 rate your PV calc will exactly match option C.
 
The question asks for 3 years (20% growth x 2 years and 4% after), so I calculate 4 dividends and take the terminal value of the 4th?
I’m assuming it’s safe to always calculate one extra dividend than what the question asks for?
 
no dude, you calc dividends for 2 years and then take the (2nd year * 4%) / r - 4%. then add this value to D2, then discount D1 and D2 at r.
 
I’m sorry, but that’s not what swaptiongamma did above……
 
swaptionagamma’s rule - always calculate 1 dividend extra and keep. That will be useful in calculating terminal value (and not messing it up like u have done by taking D3 instead of D4)
 
Thank you swaptiongamma! Not sure why this isn’t sticking in my brain!
 
Time line:
0…………….1…………….2…………….3
At t0, D0=$1.00
At end of t1, D1=$1.2
At end of t2, D2=$1.44
So, at end of t2, calculate P_2 = next dividend / (R_ce - g)
Your cash flows at end of t2 = P_2 + D2, discount them using R_ce for 2 years.
Your cash flows at end of t1 = 1.2, discount it using R_ce for 1 year.
Add them all up.
 
hey guys
do not know why you are going beyond period 2:
D0=1.00
D1=1.2
D2=1.44
P2 = 1.44 * 1.04 / (0.085 - 0.04) = 33.28
now do the CF -> you get NPV=30.599…
 
told ya so soxboys, that you didn’t need more than D1, D2, and the D3 terminal value.
 
i’m wholeheartedly with CPK on this one.
CF1 = 1.2
CF2 = 1.44 + 33.28 = 34.72
I = 8.5
NPV = 30.599078
get the 33.28 by the 1.4976 D3/ 0.085 - 0.04
quick, easy, done. whatever period the constant growth starts in, get that div, work your terminal value out, and solve the bad boy.
 
swaptiongamma Wrote:
——————————————————-
> D0 = 1
> D1 = 1.20
> D2 = 1.44
> D3 = 1.4976
> D4 = 1.557504
> V4 = 1.557504/0.045 = 34.6112
>
> CF0=1.20
> CF1=1.44
> CF2 = 36.1088
> I = 8.5%
> CPT->NPV = 30.599 = C
Good Morning and sorry for the confusion. Had a little too much yesterday night.
Here is the correct deal.
D0 = 1
D1 = 1.20
D2 = 1.44
D3 = 1.4976
V2 = 1.4976/0.045 = 33.28
CF1=1.20
CF2 = 1.44 +33.28 =34.72
I = 8.5%
CPT->NPV = 30.599 = C
 
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