Question 2 (20 marks)

Currently, ABC Company pays a constant dividend of $10 on its stock annually. Assume the required rate of return to be 10%, compounding annually.

(a) Evaluate the share price of ABC Company. (5 marks)

Later, ABC Company decides to raise its dividend with a growth rate of 5%, starting from next year. The dividend paid out next year is $10 1.05 = 10.5, and this will grow by 5% in the following years. Assume the required rate of return to be 10%.

(b) Evaluate the share price of ABC Company based on this change of (5 marks) dividend policy.

Another Company, XYZ, was previously paying a dividend of $5 per year. Suppose it is expected to increase its dividends by 20% in the first year and by 15% in the second year. After that, dividends will increase at a rate of 5% per year indefinitely. Assume the required rate of return to be 10%.

(c) According to this information, how much should the XYZ's stock be selling for?(10 marks)