Question

If a stock's dividend is expected to grow at a constant rate of eight percent in the future and it has just paid a dividend of $1.25 a share, and you have an alternative investment of equal risk that will earn a 12 percent rate of return, what would you be willing to pay per share for this stock?

a. $31.25
b. $1.40
c. $1.25
d. $1.12

Answer 1

Value = 31.25

Step-by-step explanation:

we use the gordon dividend growth model to solve for the share price:

`(divends_1)/(return-growth) = Intrinsic \: Value`

d = 1.25

r= .12

g = 0.08

`(1.25)/(.12-.08) = Intrinsic \: Value`

Value = 31.25