Question

Jennifer Davis is interested in buying the stock of Pharoah, Inc., which is increasing its dividends at a constant rate of 9.5 percent. Last year the firm paid a dividend of $2.65. The required rate of return is 17.00 percent. What is the current value of this stock? (round to 2 decimal places)

Answer 1

Answer - Price of the stock today = 38.69

Step 1 - Formulae

S0 = D1 / (Re -g)

where

S0 = Stock Price today

D1 = Dividend at the end of year 1

Re = Required rate of retrun

g = Growth rate

Step 2 - Calculation of dividend at the end of year 1 (D1)

first of all we will calculate Dividend at the end of year 1 (D1)

It is given in the question dividend will grow at the rate of 9.5%

Therefore dividend at the end of year 1 (D1) = last year dividend * (1+g)

D1 = 2.65 * 1.095

D1 = 2.90175

Step 3 - Calculation of Stock price today (S0)

S0 = D1 / (Re -g)

S0 = 2.90175 / (0.17-0.095)

S0 = 2.90175 / 0.075

S0 = 38.69

Therefore stock price today = 38.69