Question

# Omni Telecom is trying to decide whether to increase its cash dividend immediately or use the...

Omni Telecom is trying to decide whether to increase its cash dividend immediately or use the funds to increase its future growth rate.

 P0 = D1 Ke − g

P0 = Price of the stock today
D1 = Dividend at the end of the first year
D1 = D0 × (1 + g)
D0 = Dividend today
Ke = Required rate of return
g = Constant growth rate in dividends

D0 is currently \$2.80, Ke is 12 percent, and g is 5 percent.
Under Plan A, D0 would be immediately increased to \$3.40 and Ke and g will remain unchanged.
Under Plan B, D0 will remain at \$2.80 but g will go up to 6 percent and Ke will remain unchanged.

a. Compute P0 (price of the stock today) under Plan A. Note D1 will be equal to D0 × (1 + g) or \$3.40 (1.05). Ke will equal 12 percent, and g will equal 5 percent. (Round your intermediate calculations and final answer to 2 decimal places.)

Stock price for Plan A

b. Compute P0 (price of the stock today) under Plan B. Note D1 will be equal to D0 × (1 + g) or \$2.80 (1.06). Ke will be equal to 12 percent, and g will be equal to 6 percent. (Round your intermediate calculations and final answer to 2 decimal places.)

Stock price for Plan B

c. Which plan will produce the higher value?

• Plan B

• Plan A

 Using the dividend growth model we can calculate price of stock today P0 = D0*(1+g)/(Ke-g) P0 is the price today D0 is dividend paid today g is growth rate Ke expected return on stock a. Computer P0 under plan A P0 3.40*(1.05)/(0.12-0.05) P0 3.57/0.07 P0 \$51.00 b. Computer P0 under plan B P0 2.80*(1.06)/(0.12-0.06) P0 2.968/0.06 P0 \$49.47 c. Plan A would provide higher stock price

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