Question

A company's earnings and dividends are growing at a constant rate of 8 percent. Last week it paid a dividend of $3.00. If the required rate of return is 15 percent, what is the price of the stock three years from now? (Do not round intermediate calculations. Round final answer to two decimal places.)

A) $58.31
B) $46.29
C) $51.02
D) $42.83

Answer 1

The formula for the price of a stock is P0 = D1 / (r - g), where P0 is the price of the stock today, D1 is the dividend expected to be paid one year from now, r is the required rate of return, and g is the constant growth rate.

Step-by-step explanation:

To calculate the price of a stock three years from now, we can use the constant growth dividend model. The formula for the price of a stock is:

P0 = D1 / (r - g)

Where P0 is the price of the stock today, D1 is the dividend expected to be paid one year from now, r is the required rate of return, and g is the constant growth rate. In this case, D1 = $3.00, r = 15%, and g = 8%. Plugging in the values:

P0 = $3.00 / (0.15 - 0.08) = $3.00 / 0.07 = $42.86

Therefore, the price of the stock three years from now is approximately $42.83 (option D).