Question

Reddick Enterprises' stock currently sells for $35.50 per share. The dividend is projected to increase at a constant rate of 5.50% per year. The required rate of return on the stock, rs, is 9.00%. What is the stock's expected price 3 years from today?

	A.	$37.86
	B.	$38.83
	C.	$39.83
	D.	$40.85
	E.	$41.69

Answer 1

Concepts and reason

Stock: An equal part or portion of company’s capital which indicates ownership of the holder in the company and which states that the shareholder has a claim in the profits and the assets of the company is referred to as a share; and a bundle of fully paid shares is referred to as stock. The two main categories of stock are preferred stock and common stock.

Common Stock: It is a form of corporate equity ownership. It is one of the forms of securities that it is issued to common shareholders. They are entitled to dividend and repayment of capital after payment is made to preference shareholders. It will be reported in balance sheet in liabilities side.

Par value: The dollar value of a share that is assigned and allocated by the corporation’s charter is referred to as par value. Common stock is reported at par value in paid-in capital of contributed capital section. This might or might not be the stock issue price.

Authorized shares: Authorized shares are the number of shares granted by state charter and are mentioned in its articles of association that are to be issued by company.

Issued shares: Issued shares are the number of shares that are allotted to stockholders out of the legally authorized shares.

Outstanding shares: Outstanding shares are the number of shares that are issued by company and held by stockholders.

Fundamentals

Dividend: The Company pays dividend to shareholders of the company. Payment of cash dividend is a financing activity in cash flow statement. There is an outflow of cash as a result of payment of cash dividend. Therefore there is a decrease in cash as a result of this transaction.

Required rate of return: The term RRR stands for Required Rate of Return. Normally corporate finance and equity valuation are using the required rate of return. Based on this required rate of return, investors are decided where to invest.

Constant rate: Constant rate is a rate which the dividends are expected to grow at a constant rate in the future.

Stock's expected price 3 years from today: It is an expected price of stock 3 years from today. The following formula is used for calculating stock's expected price 3 years from today.

Calculation of first year dividend is given below:

Therefore, the first year dividend is 1.2425.

Calculation of stock's expected price 3 years from today is given below:

Therefore, the stock's expected price 3 years from today is $41.69.

Ans:

Stock's expected price 3 years from today is $41.69.