Question

new boat company has paid annual dividends of $0.30, $0.50, and $0.60 per share over the last three years ($0.60 is the most recent dividend per share). analysts expect that the company will not increase the dividend any further, and will pay a constant dividend in the foreseeable future. you will only buy this stock if you can earn a 16% return. what is the maximum amount that you are willing to pay for a share of this stock today?

Answer 1

You should be willing to pay a maximum of $3.75 per share for the stock of the new boat company to achieve a 16% return on investment, using the present value of a perpetuity formula.

Step-by-step explanation:

To determine the maximum price you are willing to pay for a share of this new boat company's stock, given that you want to earn a 16% return and the company is expected to pay a constant annual dividend of $0.60 per share, you can use the dividend discount model for a perpetuity. Since the dividend is expected to remain constant, the formula for the present value of a perpetuity (PV) is used: PV = D / r, where D is the dividend per share and r is the required rate of return. In this case, D = $0.60, and r = 0.16 (16%). Thus, the maximum price you'd be willing to pay for the stock is calculated as: PV = $0.60 / 0.16 = $3.75

Therefore, the maximum amount you should be willing to pay for a share of this stock today is $3.75 if you want to earn a 16% return.