Question

The common stock of Sweet Treats is selling for $53.75 per share. The company is expected...

The common stock of Sweet Treats is selling for $53.75 per share. The company is expected to have an annual dividend increase of 4.2 percent indefinitely and pay a dividend of $4.20 in one year. What is the total return on this stock?

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Answer:

Dividend discount model id used to find share price by discounting all the future dividend from the stock.

Share price = Next year dividend/ (Required return - dividend growth rate)

Where,

                 Share price = $53.75

                 Dividend = $4.2

                 Dividend growth rate = 4.2%

Let’s put all the values in the formula to find required rate

53.75 = 4.2/ (X - 0.042)

53.75*X - 2.2575 = 4.2

53.75*X = 4.2 + 2.2575

53.75*X = 6.4575

X = 6.4575/53.75

X = 0.12014

So required rate of the stock is 12.01%

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