Question

Constant Growth Valuation

Boehm Incorporated is expected to pay a $3.60 per share dividend at the end of this year (i.e., D₁ = $3.60). The dividend is expected to grow at a constant rate of 7% a year. The required rate of return on the stock, r_s, is 15%. What is the estimated value per share of Boehm's stock? Round your answer to the nearest cent.

Answer 1

Solution :

As per the Gordon growth Model estimated value per share of a stock is calculated using the following formula:

P₀ = D₁ / ( k_e – g )

Where

P₀ = Estimated value per share;      D₁ = Dividend per share payable at the end of the year ; g = growth rate ;

k_e = Required Rate of return on the stock

As per the information given in the question we have ;

D₁ = $ 3.60 ;       g = 7 % = 0.07 ;    k_e = 15.00 % = 0.15

Applying the above values in the formula we have

= 3.60 / ( 0.15 – 0.07)

= 3.60 / 0.08

= $ 45 per share ( rounded off to the nearest cent )

The estimated value per share of Boehm's stock = $ 45