BioScience Inc. will pay a common stock dividend of $3.90 at the end of the year (D1). The required return on common stock (Ke) is 22 percent. The firm has a constant growth rate (g) of 10 percent. Compute the current price of the stock (P0).
Dividend Growth Model:
The dividend growth model determines the current price of the stock by discounting the future dividends that the stock will offer assumed to grow at a constant growth rate to perpetuity. The discount rate used to determine the present value of future dividends represents the difference between the required return on the stock and the constant growth rate.
Answer and Explanation:
BioScience Inc's stock's current price is $32.50.
BioScience Inc. has shared the following data:
- Next dividend, D1 = $3.90
- Required return, Ke = 22%
- Constant growth rate, g = 10%
- Current stock price, P0 =?
Using the dividend growth model:
- P0 = D1 / (Ke - g)
- P0 = $3.90 / (22% - 10%)
- P0 = $32.50
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Learn more about this topic:
from Finance 101: Principles of FinanceChapter 14 / Lesson 3