Question

Johnson Corporation has just paid a dividend of $4.45. The company has forecasted a dividend growth rate of 8 percent for the next several years. If the appropriate discount rate is 14 percent, what is the current price of this stock? (Round to the nearest dollar.)

A) $74
B) $32
C) $80
D) $60

Answer 1

The current price of Johnson Corporation's stock is $80, calculated using the Gordon Growth Model with the given dividend, growth rate, and discount rate.

Step-by-step explanation:

The current price of the Johnson Corporation stock can be determined using the Gordon Growth Model (also known as the Dividend Discount Model). This model calculates the present value of an infinite series of future dividends that grow at a constant rate.

The formula for the Gordon Growth Model is:
P = D1 / (r - g),
where P is the current stock price, D1 is the next year's expected dividend, r is the discount rate, and g is the growth rate in dividends. Since the company just paid a dividend of $4.45 and it’s expected to grow at a rate of 8 percent, the dividend next year would be D1 = $4.45 * (1 + 0.08) = $4.81.

Using the provided discount rate of 14 percent, we can calculate the current stock price:

P = $4.81 / (0.14 - 0.08) = $4.81 / 0.06 = $80.17, which when rounded to the nearest dollar, gives us $80.

Therefore, the direct answer to the student's question is C) $80.