Question

Omni Telecom is trying to decide whether to increase its cash dividend immediately or use the funds to increase its future growth rate.

   

P0	=	D1
		Ke − g

P₀ = Price of the stock today
D₁ = Dividend at the end of the first year
D₁ = D₀ × (1 + g)
D₀ = Dividend today
K_e = Required rate of return
g = Constant growth rate in dividends

D₀ is currently $3.00, K_e is 11 percent, and g is 6 percent.

Under Plan A, D₀ would be immediately increased to $3.50 and K_e and g will remain unchanged.
Under Plan B, D₀ will remain at $3.00 but g will go up to 7 percent and K_e will remain unchanged.

a. Compute P₀ (price of the stock today) under Plan A. Note D₁ will be equal to D₀ × (1 + g) or $3.50 (1.06). K_e will equal 11 percent, and g will equal 6 percent. (Round your intermediate calculations and final answer to 2 decimal places.)

Stock price for Plan A_________

b. Compute P₀ (price of the stock today) under Plan B. Note D₁ will be equal to D₀ × (1 + g) or $3.00 (1.07). K_e will be equal to 11 percent, and g will be equal to 7 percent. (Round your intermediate calculations and final answer to 2 decimal places.)

c. Which plan will produce the higher value?

plan A or B ?

Answer 1