Question

Constant Growth Valuation

Woidtke Manufacturing's stock currently sells for $32 a share. The stock just paid a dividend of $3.75 a share (i.e., D₀ = $3.75), and the dividend is expected to grow forever at a constant rate of 8% a year. What stock price is expected 1 year from now? Round your answer to the nearest cent.
$

What is the estimated required rate of return on Woidtke's stock? Do not round intermediate calculations. Round the answer to three decimal places. (Assume the market is in equilibrium with the required return equal to the expected return.)
     %

Answer 1

Here,

P0 = $32, D0 = 3.75, g = 8%, P1=?, r = ?

Expected stock price 1 year from now (P1) = P0(1 + g)

                                                            = 32(1 + 0.08)

                                                                      = $34.56

D1 = D0(1 + g) = 3.75(1 + 0.08) = $4.05

Estimated required rate of return on Woidtke's stock (r) = (D1 / P0) + g

                                                                                        = (4.05 / $32) + 0.08

                                                                                        = 0.20656

                                                                                        = 20.656%