Question

earnings per share of a company is rs. 5 and the rate of return required by its shareholders is it16 per cent. assuming gordon valuation model, what rate of return should be earned on investment toensure that the market price of its share is rs. 50 and the dividend payout is 40 per cent?

Answer 1

To ensure that the market price of its share is Rs. 50 and the dividend payout is 40 percent, the company should earn a rate of return of approximately 16% on its investment. The growth rate should be approximately 2.4%.

Step-by-step explanation:

The rate of return required by shareholders is the rate of return they expect to earn on their investment in the company. In this case, the required rate of return is 16 percent.

The Gordon valuation model is used to determine the market price of a company's share based on its expected dividends and the required rate of return. According to the model, the market price of a share can be calculated using the formula:

Market Price = Dividends / (Rate of Return - Growth Rate)

In this case, the market price of the share is Rs. 50 and the dividend payout is 40 percent. Let's assume the growth rate to be 'g'. We can rearrange the formula to solve for the growth rate:

Rate of Return = Dividends / (Market Price + Growth Rate)

Substituting the given values, we get:

16% = 0.40 / (50 + g)

Simplifying the equation, we find that the growth rate should be approximately 2.4 percent.