Question

1. Using the following information to evaluate a stock price.
   A stock just paid its dividend of $2.00 and its required return is 13%.

1. If the growth rate g = 0%, in other words, the dividend is constant at $2.00, what is the stock price? 837
2. What if g is constant and is 6%? 33.3333
3. What is the dividend yield and what is the capital gains yield for b?
4. Assume g is non-constant, the growth rate is 30% for Year 0 to Year 1, 25% for Year 1 to Year 2, 15% for Year 2 to Year 3, and then long-run constant g = 6%, what is the stock price?
5. Assume that the dividends are growing at 10% for the first two years and then grow at 6% forever after. What is the stock price?

Answer 1

Answer(a): Zero growth model: Where dividend does not grow and remain same.

Formula: P0 = D₀ / Re

Where P₀ = stock price, D₀ = Dividend, Re = Required return.

P₀ = ?, D₀ = $2, Re = 13%.

Putting all the above values in the formula, we get:

P₀ = 2 / .13

P₀= $15.38

Answer(2): Constant growth model: Where the dividend grows at a constant rate.

Formula: P₀ = D1 / (Re - g)

Where D1 = D₀ (1+g), g = 6%

Putting the value in the formula, we get:

P₀ = 2 (1+.06) / (.13-.06)

P₀ = 2.12 / .07

P₀ = $30.28

Answer(3): Dividend yield = Annual dividend / Current stock price

Annual dividend = $2.12, Current stock price = $30.28

Dividend yield: 2.12 / 30.28 = 7%

Capital gain yield = (Stock price after 1st period - Initial stock price) / Initial stock price

Capital gain yield = (30.28 - 15.38) / 15.38

Capital gain yield = 96.88%