Question

8. Ameritech Corporation paid dividends per share of $3.56 in 2018, and dividends are expected to grow 5.5% a year forever. The investors’ required rate of return is 10%. What is the value per share, using the Gordon Growth Model? The stock is trading for $80 per share. What would the growth rate in dividends have to be to justify this price?

Answer 1

Value per share using the Gordon Growth Model :

Value = D1/ (k-g)

Where, D1 = Dividends which would be paid next year

K = Investor's required rate of return = 10%

g = constant growth rate of dividend = 5.5%

D1 = 3.56 * (1+0.055) = 3.7558

Value = 3.7558/(0.10 - 0.055)

Value = $83.46

Answer : Value per share is $83.46

To justify the ongoing price of $80, the growth rate should be :

80 = 3.56 * (1+g)/(0.10 - g)

From the following equation, g = 5.31%

The growth in dividends should be 5.31% to justify $80