Question

Waterman Company has had a fantastic growth of 22 percent per year, but this growth rate is expected to fall to 6 percent in the near future and then continue at that rate for a long time. Shareholders expect a 17 percent annual rate of return and a dividend of $0.75 next year. What is the share price of Waterman’s common stock? (Round the final answer to 2 decimal places.) Share price $

Answer 1

Information provided:

Dividend growth rate= 6%

Next year’s dividend= $0.75

Expected rate of return= 17%

The question can be solved using dividend discount model.

Price of the stock today=D1/(r-g)

Where:

D1=next dividend payment

r=interest rate

g=firm’s expected growth rate

Price of stock today= $0.75/ 0.17 – 0.06

                               = $0.75/ 0.11

                               = $6.82.

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