Michael's, Inc. just paid $2.55 to its shareholders as the annual dividend. Simultaneously, the...

Question:

Michael's, Inc. just paid $2.55 to its shareholders as the annual dividend. Simultaneously, the company announced that future dividends will be increasing by 5.50 percent. If you require a rate of return of 9.7 percent, how much are you willing to pay today to purchase one share of Michael's stock?

A. $66.60

B. $32.03

C. $64.05

D. $27.73

E. $17.70

Dividends:

When the investors become the shareholders of the company by investing in its stock, the business generates earnings by investing the capital raised by selling shares. These earnings are distributed to the shareholders as per the dividend payout policy. It is the income the shareholders receive for holding the shares of the company.

Answer and Explanation:


Correct answer: Option C) $64.05.

Explanation:

Michael's Inc has shared the following data:

  • Recent dividend, D0 = $2.55
  • Constant growth rate, g = 5.5%
  • Required return, r = 9.7%

Computation:

The first step is to determine the expected dividend, D1:

  • D1 = D0 * (1 + g)
  • D1 = $2.55 * (1 + 5.5%)
  • D1 = $2.69

The last step is to determine the current share price (P0), using the dividend growth model:

  • P0 = D1 / (r - g)
  • P0 = $2.69 / (9.7% - 5.5%)
  • P0 = $64.05

Learn more about this topic:

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The Dividend Growth Model

from Finance 101: Principles of Finance

Chapter 14 / Lesson 3
9.5K

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