Question

Jand, Inc., currently pays a dividend of $1.38, which is expected to grow indefinitely at 5%. If the current value of Jand’s shares based on the constant-growth dividend discount model is $35.41, what is the required rate of return? (Do not round intermediate calculations. Round your answer to 2 decimal places.)

Answer 1

9.09%

Step-by-step explanation:

Use Gordon growth model of stock valuation to find the required rate of return;

Price = D1/ (r-g)

this can also be written as
`(D0(1+r))/((r-g))`

whereby,

Price = $35.41

D0 = Current dividend = 1.38

D1 = Next year's dividend = 1.38(1.05) = 1.449

g = growth rate = 5% or 0.05 as a decimal

r = required return = ?

Rewrite the formula "Price = D1/ (r-g) " to find r;

r =
`(D1)/(Price) +g`

r =
`(1.449)/(35.41) + 0.05\\ \\ =0.04092 +0.05\\ \\ =0.09092`

as a percentage, the required return = 9.09%