Question

Reddick Enterprises' stock currently sells for $35.50 per share. The dividend is projected to increase at a constant rate of 5.50% per year. The required rate of return on the stock, rs, is 9.00%. What is the stock's expected price 3 years from today? $37.86 $38.83 $39.83 $40.85 $41.69

Answer 1

E. $41.69

Step-by-step explanation:

We know,

Value of stock (
`P_(0)`) =
`(D_(1))/(k_(s) - g)` [In case of constant growth model]

`D_(1)` = Next year or expected dividend

`k_(s)` = required rate of return

g = growth rate = 5.50%

However, as there is no information regarding expected dividend, we will use the alternative formula to calculate the stock's expected price 3 years from today.

`P_(3)` =
`P_(0)` ×
`(1 + g)^(3)`

Here, current stock price,
`P_(0)` = $35.50

Therefore,
`P_(3)` = $35.50 ×
`(1 + 0.0550)^(3)`

`P_(3)` = $35.50 × 1.1742

Stock's expected price 3 years from now = $41.69 (rounded to two decimal places)

Therefore, option E is the answer.