A company will pay its next dividend in one year and it is expected to be $2.00. The dividend has...

Question:

A company will pay its next dividend in one year and it is expected to be $2.00. The dividend has grown by 5.25% a year since dividends have been paid. If you determined that the appropriate rate of return for a company is 12%, what are you willing to pay for the stock?

Answer and Explanation:

The single period dividend growth model can be represented as:

{eq}Price = \frac{D_{1}}{r-g} {/eq}

Where:

  • D1 is the next period dividend = $2.00
  • r is the required return = 12% or 0.12
  • g is the growth rate = 5.25% or 0.0525

Substituting the values we have:

{eq}Price = \frac{ $ 2}{0.12-0.0525} {/eq}

{eq}Price = $29.63 {/eq}

The most you would be willing to pay for the stock would be $29.63.


Learn more about this topic:

The Dividend Growth Model

from Finance 101: Principles of Finance

Chapter 14 / Lesson 3
7K

Recommended Lessons and Courses for You

Explore our homework questions and answer library