Question: 3. John Smith has been directed to determine the value of Widgets stock. John believes that Widgets dividends will grow at 10% per year for

3. John Smith has been directed to determine the value of Widgets stock. John believes that Widgets dividends will grow at 10% per year for the first three years and at 2% thereafter. Widget paid a dividend of $1.50 in the most recent year (D0). In addition, the risk-free rate is 3% and the expected market premium is 5%. John has estimated Widgets beta to be 0.8.

a. Calculate the required rate of return k for Widget (cost of equity).

b. To estimate the intrinsic value of Widget by using the two-stage dividend discount model:

i) What are the dividends in Year 1, Year 2, and Year 3?

ii) What is the intrinsic value in Year 3 (when it reaches a constant growth rate)?

iii) What is the current intrinsic value (in Year 0)?

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