Question

1. A stock just paid a dividend of $4.73 and is expected to maintain a constant dividend growth rate of 4.6 percent indefinitely. If the current stock price is $84, what is the required return on the stock?

2. Gnomes R Us just paid a dividend of $1.95 per share. The company has a dividend payout ratio of 55 percent. If the PE ratio is 17.4 times, what is the stock price?

Answer #1

1.) **current price = next year dividend / (required rate
- growth rate)**

$84 = $4.73 * (1 + 0.046) / (required rate - 0.046)

84 = 4.94758 / (required rate - 0.046)

84 * (required rate - 0.046) = 4.94758

84 * required rate - 3.864 = 4.94758

84 * required rate = 8.81158

required rate = 10.49%

2.) *dividend payout ratio = dividend per share / earning per
share*

0.55 = $1.95 / earning per share

earning per share = $3.55 per share

** PE ratio = stock price
/ earning per share**

* 17.4 = stock price /
$3.55*

* Stock price = $61.77*

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