Question

Investors require a 15% rate of return on Levine Company's stock (i.e., rs = 15%). a. What is its value if the previous dividend was D0 = $2.50 and investors expect dividends to grow at a constant annual rate of (1) -5%, (2) 0%, (3) 7%, or (4) 14%? Do not round intermediate calculations. Round your answers to two decimal places. (1) $ (2) $ (3) $ (4) $

Answer 1

According to Dividend Discount Model

Price/Share=Next Dividend//(r-g)

ie.P0=D(1)/(r-g)

where

D(1)=Next dividend=D(0)*(1+g)

ie. 2.5*(1+g)

r= Rate of return reqd.=15%

g=Growth rate of dividends

1. g=-5%

Next Dividend=2.5*(1+(-5%))=

2.375

(r-g)=15%-(-5%)

20%

Price/Share, P0=2.5*(1+(-5%))/(15%-(-5%))

ie.P0=2.375/20%

11.875

Similarly, calculating for others,

2..g=0%

Price/Share, P0=2.5*(1+0%)/(15%-0%)

16.67

3..g=7%

Price/Share, P0=2.5*(1+7%)/(15%-7%)

33.44

4. g=14%

Price/Share, P0=2.5*(1+14%)/(15%-14%)

285