The price of Garden Designs, Inc. is now $ 85. The company pays no dividends. Sean Perth expects the price four years from now to be $ 125 a share. Should Sean buy Garden Designs if he wants a 15 percent rate of return? Explain
End of year 1 >> 85 * 1.14 = 97.75
year 2 >> 97.75 * 1.15 = 112.41
Continue this chart.
To determine if Sean should buy Garden Designs, we can use the concept of present value and future value.
1. Calculate the present value (PV) of the stock price today:
The PV formula is given by PV = FV / (1 + r)^n, where FV is the future value, r is the rate of return, and n is the number of years.
PV = $85 / (1 + 0.15)^0
PV = $85
2. Calculate the future value (FV) of the stock price in four years:
FV = PV * (1 + r)^n
FV = $85 * (1 + 0.15)^4
FV = $85 * 1.822
FV = $154.87
3. Compare the future value with the expected price four years from now:
The future value of $154.87 is higher than Sean's expectation of $125. Therefore, the stock appears to be undervalued relative to Sean's expectations.
Considering the 15 percent rate of return, it seems like a good investment opportunity. However, it is essential to consider other factors such as market conditions, potential risks, and company fundamentals before making a final decision.