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This afternoon, Northern Railways paid an annual dividend of $2.44 per share. The company has been...

This afternoon, Northern Railways paid an annual dividend of $2.44 per share. The company has been reducing the dividends by 15 percent each year (-15% growth rate of the dividend). How much are you willing to pay to purchase stock in this company if your required rate of return is 16 percent?

6.69

7.87

36.6

244

207.40

Solutions

Expert Solution

Calculation of the amount/price that you will be willing to pay to purchase the stock:

Formula:

Price of the bond = *Annual Dividend in year 1 / (Required rate of return - Growth rate)

*Annual Dividend in year 1 = Dividend just paid x (1+ growth rate)

= $2.44 x [1+ (-0.15)]

= $2.44 x 0.85

= $2.074

Price of the bond = $2.074 / [16% - (-15%)]

= $2.074 / 31%

= $2.074 / 0.31

= $6.69 (Answer)

jeff jeffy answered 2 years ago
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