Maurer, Inc., has an odd dividend policy. The company has just paid a dividend of $2 per share and has announced that it will increase the dividend by $6 per share for each of the next five years, and then never pay another dividend. If you require a return of 12 percent on the company’s stock, how much will you pay for a share today

The maximum that should be paid for the stock today is $67.22

Explanation:

To calculate the price of the stock today, we will use the discounted cash flow or the DDM approach. The approach bases the value of the stock on the present value of the expected future cash flows from the stock. The cash flows in terms of stock are the dividend payments made by the stock. The formula to calculate the price or present value today under this approach is,

P0 = D1 / (1+r)  +  D2 / (1+r)^2  +  ...  +  Dn / (1+r)^n

Where,

P0 = (2+6) / (1+0.12) +  (2+6+6) / (1+0.12)^2  +  (2+6+6+6) / (1+0.12)^3   +  

(2+6+6+6+6) / (1+0.12)^4  +  (2+6+6+6+6+6) / (1+0.12)^5

P0 = $67.22

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