Question

Suppose a company currently pays an annual dividend of $6.00 on its common stock in a single annual installment and management plans on raising this dividend by 5 percent per year, indefinitely. If the required return on this stock is 14 percent, what is the current share price?

Answer 1

The price of the current share is $70

Step-by-step explanation:

Value of the stock:

The Value of the stock of the organization is the current estimation of its incomes limited at the profits required by the speculators.

In the event that the profits of the organization are foreseen to develop at steady rate, at that point following equation can be utilized to esteem the stock:

`P_(0) = D_(1) / r-g`

Where,

`P_(0) = Current price of the stock`

`D_(1) = Next dividend expected`,

`r = Required return of investors`

`g = Constant growth rate`

Thus, the current price of the company paying annual dividend can be calculated as:

`P_(0) = D_(1) / r-g`

`P_(0) = 6 * (1 + 0.05) / 0.14 - 0.05`

`P_(0) = 70`

Answer 2

The current share price is $70

Step-by-step explanation:

The constant growth in dividend will require the Gordon Growth model. The formula for the price of stock can be written as,

P0 = D1 / r-g

Where,

• D1 is the dividend expected next year
• r is the required rate of return
• g is the growth rate in dividends

P0 = 6*(1+0.05) / 0.14 - 0.05

P0 = $70 per share